Question

During 2016 (its first year of operations) and 2017, Batali Foods used the FIFO inventory costing method for both financial reporting and tax purposes. At the beginning of 2018, Batali decided to change to the average method for both financial reporting and tax purposes.

Income components before income tax for 2018, 2017, and 2016 were as follows ($ in millions):

	2018			2017			2016
Revenues	$	490		$	460		$	450
Cost of goods sold (FIFO)		(53	)		(47	)		(45	)
Cost of goods sold (average)		(76	)		(70	)		(66	)
Operating expenses		(282	)		(278	)		(270	)

Dividends of $26 million were paid each year. Batali’s fiscal year ends December 31.

Required:
1. Prepare the journal entry at the beginning of 2018 to record the change in accounting principle. (Ignore income taxes.)
2. Prepare the 2018–2017 comparative income statements.
3. & 4. Determine the balance in retained earnings at January 2017 as Batali reported using FIFO method and determine the adjustment of balance in retained earnings as on January 2017 using average method instead of FIFO method.

Answer 1

1	Account Titles and Expalanation	Debit	Credit
	Retained earnings ($23 + $21)	$          44
	Inventory		$          44
	(Being adjustment entry recorded for change in accounting principal)
	Cost of goods sold	2017	2016
	FIFO	$          47	$          45
	Average	$          70	$          66
	Difference:	$          23	$          21
2	Comparative Income Statement
		2018	2017
	Revenues	$        490	$        460
Less:	Cost of goods sold	$          76	$          70
	Gross Profit	$        414	$        390
Less:	Operating Expenses	$        282	$        278
	Net Income	$        132	$        112
3 & 4	Retained Earnings (2017) - FIFO
	Retained earnings , 2016	0
Add:	Net Income	$        135
Less:	Dividend	$          26
	Retained earnings , 2017	$        109
	workings:
	Income Statement	2016
	Revenues	$        450
Less:	Cost of goods sold	$          45
	Gross Profit	$        405
Less:	Operating Expenses	$        270
	Net Income	$        135
	Adjustment of Balance sheet (2017)
	Cost of goods sold	2016
	FIFO	$          45
	Average	$          66
	Difference:	$          21
	Retained Earnings (2017)	FIFO	Average
	Retained earnings , 2016	0	0
Add:	Net Income	$        135	$        114
Less:	Dividend	$          26	26
	Retained earnings , 2017	$        109	$          88
	workings:
	Income Statement	FIFO	Average
	Revenues	$        450	$        450
Less:	Cost of goods sold	$          45	$          66
	Gross Profit	$        405	$        384
Less:	Operating Expenses	$        270	$        270
	Net Income	$        135	$        114