Question

Krewatch, Inc., is a vertically integrated manufacturer and retailer of golf clubs and accessories (gloves, shoes, bags, etc.). Krewatch maintains separate financial reporting systems for each of its facilities. The company experienced the following events in 2017:

1. After several years of production problems at the accessories manufacturing plant, Krewatch sold the plant to an investor group headed by a former manager at the plant.

2. Krewatch incurred restructuring costs of $12,562,990 when it eliminated a layer of middle management.

3. Krewatch extinguished $200 million in 30-year bonds issued 18 years ago. Krewatch recognized a gain on this transaction.

4. Krewatch changed its method of accounting for inventory from FIFO to the average cost method. Sufficient information was available to determine the effect of this change on prior years’ earnings numbers.

5. Due to technological advances in golf club manufacturing, management determined that production equipment would need to be upgraded more frequently than in the past. Consequently, the useful lives of equipment for depreciation purposes were reduced.

6. The company wrote off inventory that was not salable.

7. Equipment was sold at a loss.

Required:

For each event, (1) identify the appropriate reporting treatment from the following list (consider each event to be material), and (2) indicate whether it would be included in income from continuing operations, would appear on the income statement below that subtotal, or would require retrospective application.

a. Change in accounting estimate.

b. Change in accounting principle.

c. Discontinued operation.

d. Unusual or infrequently occurring item.

Answer 1

Change in Accounting estimate: A change in accounting estimate, is reported prospectively. Some common accounting estimates are the estimation of the amount of future bad debts on existing receivables, the estimation of useful life of a depreciable asset, and the estimation of future warranty expenses. When an estimate is revised as new information comes to light, we merely incorporate the new estimate in any accounting determinations from there on.

Change in Accounting estimate: A voluntary change in accounting principle refers to a change from one acceptable accounting method to another. An example is a change in the method used to value inventory. The general accounting treatment for voluntary changes in accounting principles is to retrospectively recast prior years’ financial statements when we report those statements again (in comparative statements, for example). For each year in the comparative statements reported, the balance of each account affected is revised. In other words, we make those statements appear as if the newly adopted accounting method had been applied all along. Then, a journal entry is created to adjust all account balances affected to what those amounts would have been. In addition, if retained earnings if one of the accounts whose balance requires adjustment, that adjustment is made to the beginning balance of retained earnings for the earliest period reported on the comparative statements of shareholders’ equity.

Discontinued Operation: A discontinued operation results when a company either disposes or classifies as held for sale a component of an entity. For purposes of reporting discontinued operations, in 2001 the FASB issued a standard that defined an operation as a component of an entity whose operations and cash flows can be clearly distinguished, operationally and for financial reporting purposes, from the rest of the entity. International standards also defined a discontinued operation as a discontinued component of an entity.

Unusual or infrequently occurring item: Extraordinary items are materials gains and loss that are both unusual in nature and infrequent in occurrence. The concepts of unusual and infrequent require judgment. The critical concern is the likelihood of the event causing the gain or loss occurring again in the foreseeable future. If the event is not likely to occur again, these gains and losses must be reported, net-of-tax, below discontinued operations.

1-c

2-d

3-a

4-b

5-a

6-a

7-c