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Question 4: On January 2, 1993, Quo, Inc. hired Reed to be its controller. During the year, Reed, workingclosely with
Quo's president and outside accountants, made changes in accounting policies, corrected several
errors
dating from 1992 and before, and instituted new accounting policies.
Quo's 1993 financial statements will be presented in comparative form with its 1992 financial
statements.
This question represents one of Quo's transactions. List B represents the general accounting
treatment
required for these transactions. These treatments are:
. Cumulative effect approach - Include the cumulative effect of the adjustment resulting from the
accounting change or error correction in the 1993 financial statements, and do not restate the 1992
financial statements.
. Retroactive or retrospective restatement approach - Restate the 1992 financial statements and
adjust
1 992 beginning retained earnings if the error or change affects a period prior to 1992.
. Prospective approach - Report 1993 and future financial statements on the new basis but do not
restate
1 992 financial statements.
Item to Be Answered
Quo changed from FIFO to average cost to account for its raw materials and work in process
inventories.
List B (Select one)
A. Cumulative effect approach.
B. Retroactive or retrospective restatement approach.
C. Prospective approach.
Correct Answer: B
Explanation:
Choice "B" is correct. A change in accounting principle should be shown in the retained earnings
statement of the earliest year presented as an adjustment of the beginning balance. All prior year
financial
statements are recast.
