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Unformatted text preview: 23-123ACCOUNTING FOR CHANGES AND ERRORS CHAPTER OBJECTIVESAfter careful study of this chapter, students will be able to: 1. Identify the types of accounting changes. 2. Explain the methods of disclosing an accounting change. 3. Account for a change in accounting principle using the retrospective application method. 4. Account for a change in estimate. 5. Explain the conceptual issues regarding a change in accounting principle and a change in estimate. 6. Identify a change in a reporting entity. 7. Account for a correction of an error. 8. Summarize the methods for making accounting changes and correcting errors. 23-2SYNOPSISTypes of Accounting Changes and Methods of Disclosure1. GAAP defines three types of changes as follows: (a) Change in Accounting Principle- A change from one generally accepted accounting principle to another one that is preferable. (b) Change in Accounting Estimate- A change in a prior estimate resulting from additional information, more experience, or a new event. (c) Change in Reporting Entity- A change in the entity being reported, such as when the subsidiaries included in the consolidated financial statements change. In addition to these changes, the Statementalso established the accounting principles for the correction of errors. 2. According to GAAP, the three methods for a company to report an accounting change (or error) in its financial statements are as follows: (a) A change in accounting principle is accounted for by the retrospective application of the new accounting principle (retrospective adjustment). (b) A change in accounting estimate is accounted for prospectively. (c) A change in a reporting entity is accounted for by the retrospective application of the new accounting principle (retrospective adjustment). (d) The correction of an error is accounted for by a prior period restatement (adjustment). Exhibit 23-1 in the text summarizes the effects of these methods on the financial statements. Accounting for a Change in Accounting Principle3. A change in accounting principle is a change from one generally accepted accounting principle to another generally accepted accounting principle. For example, changes in accounting principles include changes in inventory cost flow assumptions, or revenue recognition methods. Once a company adopts an accounting principle, the principle should not be changed unless a preferableprinciple is adopted. 4. As a general rule, GAAP requires that a company account for a change in accounting principle for by the retrospective application of the new accounting principle (retrospective adjustment) to all prior periods. The company applies the retrospective adjustment method by: (a) computing the cumulative effect of the change as of the beginning of the first period presented, (b) adjusting the book values of those assets and liabilities (including income taxes) that are affected by the change and making an offsetting adjustment to the beginning balance of retained earnings for the cumulative...
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- Spring '11