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The following data are from the 20X1 income statement of the Atiyeh Rug Emporium ($ in...

The following data are from the 20X1 income statement of the Atiyeh Rug Emporium ($ in thousand); Sales $1,650 Deduct cost of Goods sold Beginning Inventory $390 Purchase 820 Cost of goods available for sale 1,210 Deduct: Ending inventory 370 Cost of goods sold 840 Gross profit 810 Other expenses 610 Income before income taxes 200 Income taxes expense at 40% 80 Net Income $120 The ending inventory was overstated by $20000 because of errors in physical count. The income tax rate was 40% in 20X1 and 20X2. 1. Which item in the income statement are incorrect and by how much? Use O for the Overstated, U for the Understated, and N for not affected. Complete the following tabulation “(amounts in thousands)” 20X1 20X2 Beginning Inventory N 0 $20 Ending Inventory ? ? Cost of goods sold ? ? Gross margin ? ? Income Before Income taxes ? ? Income tax expense ? ? Net Income ? ? 2. What is the dollar effect of the inventory error on retained earnings at the end of 20x1 and at the end of 20X2?

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Expert Solution

Working note

20X1 (With error)       $ in Thousands

20X1 (Assuming there was no error) $ in Thousands

Effect Understated /Overstated/ No effect

Sales

$ 1,650.00

$   1,650.00

N

Cost of Goods Sold

Beginning Inventory

$     390.00

$       390.00

N

Purchases

$     820.00

$       820.00

N

Goods available for sale

$ 1,210.00

$   1,210.00

N

Ending Inventory

$     370.00

$       350.00

O

Cost of Goods sold

$     840.00

$       860.00

U

Gross profit

$     810.00

$      790.00

O

Other Expenses

$     610.00

$       610.00

N

Income Before Income taxes

$     200.00

$       180.00

O

Income tax expense 40%

$        80.00

$         72.00

O

Net Income

$     120.00

$       108.00

O

Part 1   Answer

20X1

20X2

Understated/Overstated/ No effect

Understated/Overstated/ No effect

Beginning Inventory

N

O

Ending Inventory

O

N

Cost of Goods sold

U

O

Gross margin

O

U

Income Before Income taxes

O

U

Income tax expense

O

U

Net Income

O

U

It is assumed that when beginning inventory in 20X2 is overstated the ending inventory is valued correctly.

Part 2

Dollar effect on retained earnings at the end of year 20X1 will be (120000-108000) = $ 12000. Extra cost of $8000 (80000-72000) is paid in 20X1

Dollar effect on retained earnings at the end of year 20X2 will be $ 12000. Tax will be saved to the extent of $8000.

ekkarill92 answered 1 year ago
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