Amundsen Accounting1234 Main Street, Northridge, CA 91611 (818) 555-2121

March 13, 2003

Mr. Jason RobertsJuan Acevedo Corporation3598 Altruistic DriveLos Angeles, CA 99878-9080

Dear Mr. Roberts

After a thorough review of your accounting records, it is apparent there are five missing entries that need immediate attention in order insure the accuracy of your financial statements.

The first entry deals with the change in the number of years of estimated life of your building. In 1987 you determined that the present building had an estimated life of 35 years. Effective January 2002, your board of directors, after conducting a careful survey, has redefined the estimated life to be 25 years effective January 1, 2002. This is a change in estimate and according to the generally accepted accounting principles (GAAP), the balance of the book value on your records would need to be computed based on this revised estimate. This does not represent a change in accounting principle, rather a change in estimate, and if the amount is material, it needs to be disclosed in the notes of the financial statements (A06, ¶¶130 & 132).

The second entry deals with a change in estimate and addresses the additional tax assessment for 2001 that has been levied and paid for in 2002. This amount should be shown on your current year’s financial statements and does not represent a prior period adjustment; therefore, no adjustment needs to be made to the prior year. Furthermore, if this amount is immaterial it could be included with the current year’s tax expense. If, on the other hand, this amount is material, it should be shown separately (A06, ¶130).

The third entry is an error created by the overstatement of officer’s salaries. In effect, your expenses have been overstated for 2001 and, according to the Financial Accounting Standards Board, an adjustment to the beginning balance of the retained earnings account is required in order to bring it to its proper balance (A35, ¶¶105-106). If there is the possibility of a carry forward of the error into the 2002 expense computation, the current year’s expenses should be adjusted as necessary.

The fourth entry presents the issue of stock dividend declaration. Typically the entry is made for a stock dividend on the date of declaration, in this case December 15, 2002. The correct entry is a debit to retained earnings for the fair market value of the stockdistributed and a credit to common stock distributable at par value, with the balance credited to additional paid-in capital account (C20, ¶103). If the effect on earnings per share is material, a footnote disclosure is required on your financial statements.

Mr. Jason RobertsMarch 13, 2003Page 2

The fifth entry that needs to be rectified is the cumulative effect of the change in accounting principle. On January 1, 2002, your company changed its inventory valuation method from the average method to the FIFO method. This change needs to be disclosed in the Income Statement after any extraordinary items and before the net income (A06, ¶116). In addition, a footnote should be noted stating what the inventory and net income would have been if a change in principle had not been made.

Your company, and business, is important to us and we hope that if you have any questions regarding the above information you will not hesitate to contact me at (818) 555-2122.

Sincerely

Vivienne CohenSenior Accountant

A m u n d s e n A c c o u n t i n g1 8 1 1 1 N o r d h o ff S t r e e tN o r t h r i d g e , C A 9 1 3 3 0

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March 5, 2003

Mr. Jason Roberts, PresidentJuan Acevedo Corporation3598 Altruistic DriveLos Angeles, CA 99878-9080

Dear Mr. Roberts

I am pleased to welcome you to our distinguished list of business clients. Per your request, we have reviewed your corporate accounting records thoroughly and have identified five significant omissions. These include changes in estimates, misstatements, and changes in accounting methods. The following is a detail of our findings and the action recommended for each item.

First, the corporation's board of directors has revised the estimate of the factory building's remaining useful life from 20 to 25 years as of January 1, 2002. This change in estimate should be used to calculate the depreciation expense for the current year’s income statement and for each year hereafter. No adjustment to prior years’ financial statements is necessary in this case (A06, ¶130).

Next, additional income taxes for 2001 were assessed by the IRS. The additional tax was paid in 2002. This situation is not uncommon. The amount of income tax paid each year is only a best estimate of future circumstances and differences naturally arise between the estimated and the actual tax (I27, ¶106). Therefore, the tax paid is recorded as an expense of the current period and no restatement of the prior year is required.

The third error involves a misstatement of accrued officers’ salaries, and will necessitate a correcting entry. Since accrued salaries were overstated at December 31, 2001, a prior period adjustment is needed in order to correct the beginning balance of the retained earnings account. This method accounts for the error without including the amount in the determination of net income for the current period. If prior years’ statements are included for comparative purposes, however, those years should reflect the adjustment (A35, ¶106). The correct entry is a credit to the beginning balance of retained earnings for 2002, since expenses were overstated on the 2001 income statement.

Mr. Jason RobertsMarch 5, 2003Page 2

Next, a 1% common stock dividend was declared on December 15, 2002 (payable on February 1, 2003), and no entry was made to record it. A stock dividend does not affect the assets of the corporation, nor do they alter the shareholders’ proportional share of ownership; however, stock dividends are treated as distributions of retained earnings (C20, ¶103). An entry is required, therefore, to move the fair value of the stock distribution from retained earnings to a Common Stock Dividends Distributable account. This account is not a liability; rather, it is an addition to paid-in capital and will be turned into common stock upon distribution of the dividend.

Lastly, the corporation has changed its inventory costing method from the average cost to the First-In, First-Out (FIFO) method. The cumulative effect of the change in costing method should be shown on the current income statement following any discontinued operations and extraordinary items, net of tax consequences. Comparative figures should not be restated (A06, ¶118).

It is our intention to help your company in any way to present the most complete and reliable financial information possible. If you have any questions regarding the above matter, or if I can be of further assistance to you, please do not hesitate to contact me at (818) 677-1200, ext. 528.

Sincerely

Kristen Contreras, CPASenior Accountant

Amundsen Accounting, LLP

702 Generally Accepted Way Northridge, CA 91326

May 8, 2003

Mr. Jason RobertsJuan Acevedo Corporation3598 Altruistic DriveLos Angeles, CA 99878-9080

Dear Mr. Roberts

After auditing Juan Acevedo’s accounting records, five transactions were missing from the company’s records. Below is a summary of the transactions omitted and instructions for recording the entries to make the financial statements in accordance with generally accepted accounting principles (GAAP).

First, the company increased the estimated useful life of the factory building. According to GAAP, “the effect of a change in an accounting estimate should be accounted for in (a) the period of change if the change affects that period only or (b) the period of change and future periods if the change affects both” (A06, ¶130). To report such a change in estimate, the revised depreciation expense is calculated by dividing the net book value of the building by the remaining useful life of the building. If the change in estimate is material, an accompanying footnote disclosure is reported (A06, ¶133).

Secondly, an additional assessment of income taxes was levied from the previous year. This additional assessment is a change in estimate because the tax percentage used to calculate income tax expense for 2001 income was an estimate. An estimate is required to determine income tax that is reported on the 2001 financial statements because the actual income tax cannot be determined until the financial statements have been prepared in 2002. The additional assessment is not shown on the 2001 financial statements. Rather, the newly assessed rate is used to report income tax expense on future financial statements. Furthermore, a footnote disclosure with the additional estimate is reported in the next years financial statements (A06, ¶133).

Thirdly, the accrual for officer salaries expense was overstated in 2001. This overstatement is recorded as a prior period adjustment. The Financial Accounting Standards Board (FASB) contends that “the correction of an error in the financial statements of a prior period shall be accounted for and reported as a prior period adjustment and excluded from the determination of net income for the current period” (A35, ¶103). In 2002, the overstatement of salaries expense is credited to the opening retained earnings balance. (A35, ¶106).

Mr. Jason RobertsMay 8, 2003Page 2

Fourth, the company declared a one percent common stock dividend. The FASB states that because the stock dividend is small relative to the total shares outstanding, the value of the stock remains unchanged. On the declaration date, the appropriate journal entry involves three accounts. Firstly, Retained Earnings is debited for the number of shares outstanding multiplied by the fair value of common stock. Secondly, Common Stock Dividends Distributable is credited for the par value of the stock. Thirdly, Additional Paid-In Capital is credited for the remaining amount (C20, ¶103).

Finally, the company changed the inventory valuation method from the average cost to the first-in, first-out method. This switch is a change in accounting principle and according to GAAP, the cumulative effect of changing to a new accounting principle is shown in the irregular items section of the income statement after extraordinary items but before net income. The cumulative effect is calculated by determining what difference would exist in beginning retained earnings if the new accounting principle had been applied retroactively for all prior periods. The cumulative gain or loss is shown net of the tax rate. Additionally, the earnings per share is shown on this item in the income statement and reasons for the change are explained in a footnote (A06, ¶117).

The transactions omitted in the company’s financial statements are included to be in accordance with GAAP. If you have any questions, please contact me at (818) 523-8462.

Sincerely,

Tina Rupani, C.P.A.

Cline & Cline Accounting, LLC1234 CSUN Street

Northridge, CA 90000(818) 555-1212

March 9, 2003May 8, 2003

Mr. Edward Dickinson4521 Alabaster Chamber RoadAmherst, MA 19767

Dear Mr. Dickinson

Recently, it was determined that the current method being employed by your company to write-off bad debt expense needs to be investigated. After researching this issue, it has come to my attention that the allowance method is the proper method to write-off bad debt expense. In addition, the direct write-off method does not comply with generally accepted accounting principles. I recommend that your company adopt the allowance method for calculating your bad debt expense. This letter will provide the bad debt expense calculations based on the allowance method.

By using the allowance method, costs are appropriately matched to revenues. The allowance method systematically allocates bad debt expense based on either current sales or outstanding receivables. For your financial statements, I recommend using the percentage-of-sales approach. According to the Financial Accounting Standards Board, “Expenses and losses are generally recognized when…previously recognized assets are expected to provide reduced or no further benefits” (Con 5, ¶86). Therefore, the bad debt expense should be recognized when it can be reasonably assumed that the receivable will not be paid. By applying the percentage-of-sales approach (based on previous bad debt), the bad debt expense for the current year can be estimated.

The appendix contains the bad debt expense calculations using the percentage-of-sales approach as well as the journal entry for adjusting the previous transaction. In addition, the difference in net income from adopting the percentage-of-sales method versus the direct method is computed. Using the allowance method yields a net income of $12,670 less than that yielded by the direct method, thereby decreasing your tax liability. It is in your best interest to adopt the allowance method for current and future reporting. By adopting the allowance method, your financial statements will be in accordance with generally accepted accounting principles.

It has been a pleasure working with you on this issue and I look forward to working with you in the future. Please let me know if you have any questions regarding this or any other matter. I can be reached at (818) 555-1212.

Sincerely

Stephanie ClineConsultant

C&C

Mr. Edward DickensonMay 8, 2003Page 2

ATTACHMENT

Bad Debt Expense Calculations

Calculation of total receivables written off:

Date Customer AmountMarch 31 E. L. Masters Company $7,800June 30 Stephen Crane Associates $6,700September 30 Amy Lowell’s Dress Shop $7,000December 31 R. Frost, Inc. $9,830

Total receivables written-off $31,330

Calculation of bad debt expense using the percentage of sales method:

Sales Bad debt loss percentage 1 Total Bad Debt Expense$2,200,000 2% $44,000

Calculation of effect on net income:

Receivables Written-Off

Percentage of Sales Bad Debt Expense

Change in Net Income 2

$31,330 $44,000 $(12,670)

Adjusting Journal Entry (to record the additional expense by adopting the percentage of sales method)

Bad debt expense $12,670Allowance for Doubtful Accounts $12,670

REFERENCES

CON5—Recognition and measurement of financial statements. ¶ 86 Consumption of benefits (2003). Financial Accounting Research System (FARS). Published by the Financial Accounting Standards Board.

1 Based on previous years bad debt expense ratio2 After applying the percentage of sales approach

702 Generally Accepted Way

Northridge, CA 91326May 8, 2003

Mr. Edward Dickinson4521 Alabaster Chamber RoadAmherst, MA 19767

Dear Mr. Dickinson

Emily Dickinson Corporation currently uses the direct write-off approach to recognize uncollectible accounts receivable. However, to comply with generally accepted accounting principles (GAAP), the allowance approach of recognizing bad debts expense will match revenues with expenses in the proper accounting period.

According to GAAP, an estimated loss is accrued if 1) information from prior years indicates that the loss can occur in the same period or in future periods and 2) the amount of the loss can be reasonably estimated (C59, ¶105). If the above two conditions are met, the losses should be included in the financial statements, even if a specific uncollectible account is not identifiable (C59, ¶128).

Emily Dickinson Corporation should follow the percentage-of-sales approach when recording bad debts expense. Under this approach, bad debts expense is estimated as a percentage of credit sales, which is 2% X $2,200,000 = $44,000. The $44,000 expense amount is greater than the company’s current expense of $31,330, which is a sum of all uncollectible receivables ($7,800 + $6,700 + $7,000 + $9,830 = $31,330). Thus, expenses are understated by $12,670 ($44,000 - $31,330) and net income is overstated by the same amount.

The adjusting entry appropriately reflecting estimated uncollectible accounts is a debit to Bad Debts Expense for $12,670 and credit to Allowance for Doubtful Accounts for the same amount. The percentage-of-sales approach properly reflects net income by providing a better matching of revenues and expenses in the appropriate accounting period (FAS5, ¶80).

If you have any questions or concerns, please feel free to contact me at (818) 523-8462.

Sincerely,

Tina Rupani, C.P.A

Accurate Accounting Co.5125 Harold Way

Los Angeles, CA 90027

March 27, 2003

Mr. Edward DickinsonEmily Dickinson Corporation4521 Alabaster Chamber RoadAmherst, MA 19767

Dear Mr. Dickinson

After our conversation, I investigated methods of accounting for uncollectible accounts receivable. The proper way to record bad debt expense is to use an allowance method, such as a percentage-of-sales approach, which matches revenues and expenses, and records assets to the net realizable value (FAS5, ¶22). Therefore, I came to the conclusion that the direct write-off method for recording bad debt expense is not in accordance with generally accepted accounting principles (GAAP).

The direct write-off method recognizes bad debt expense when an account receivable is actually deemed uncollectible. Using the direct write-off method, Emily Dickinson Corporation wrote off its uncollectible receivables for the months of March, June, September, and December for an amount of $31,330. However, the sales that resulted in these receivables did not occur in those months but instead in a prior period. Hence, the direct write-off does not match expenses to corresponding revenues causing an overstatement of net income and an understatement of expenses (CON5, ¶85).

The allowance method results in receivables being stated at the estimated realizable value on the balance sheet. Under a direct write-off method estimations are not used in determining uncollectibles. Using this method will cause an overstatement of accounts receivable on the balance sheet (C59, ¶121).

According to your records bad debt losses are approximately 2% of sales. Using the percentage- of-sales approach, we multiply 2% by the current years sales to derive the amount of bad debt expense ($2,200,000 X 0.02= $44,000). In comparison, the direct write-off method yields bad debt expense of $31,330, thus, net income is $12,670 less using the percentage-of-sales approach.

It has been a pleasure working with you. Please feel free to contact me for further questions at (323) 661-4271.

Sincerely

Sona Papazyan, CPA

CWC CPA4601 Diamond Avenue, Suite 300 Amherst, MA 19767

707-555-1212

March 20, 2003

Mr. Edward DickinsonEmily Dickinson Corporation4521 Alabaster Chamber RoadAmherst, MA 19767

Dear Mr. Dickinson

This letter is in response to our conversation regarding the direct bad debt write-off method, currently used by Emily Dickinson Corporation. Below, you will find the percentage-of-sales method, as recommended by generally accepted accounting principles (GAAP), and the effect on the net income (before taxes) for the year as a result of adopting the proper method.

Although required by the Internal Revenue Service for income tax calculation purposes, the direct write-off method is not acceptable by GAAP. When the direct write-off method is used, expenses are not properly matched with the revenues, and the accounts receivables are not recorded at their estimated realizable value (C59, ¶105). Such a practice results in an overstatement of the net income and of the net assets. GAAP requires an accrual for losses from uncollectible receivables for proper valuation (C59 ¶128). The percentage-of-sales method accomplishes this requirement.

Next, net income (before taxes) for the year decreases by $12,670 when the percentage-of-sales method is used. The bad debt expense under the two methods is calculated below.

Direct write-off method($7,800 + $6,700 + $7,000 + $9,830) = $31,330

Percentage-of-sales methodBad Debt Expense = 2% of Sales = ($2,200,000 x 2%) = $44,000

The change to the percentage-of sales-method results in an increase of bad debt expense of $12,670 ($44,000 – $31,330) and a decrease in the net income (before taxes) by the same amount.

Please call me if you have additional questions regarding these findings.

Sincerely

Nicole Stan-VegaSenior Accountant

NSV Accounting, LLP4601 Diamond Avenue, Suite 300 Sherman Oaks, CA 91403

818-555-1212

April 21, 2003

Mr. Sasha PartizanYugoslavia Imports8374 Basketball DriveMilwaukee, WI 46982

Dear Mr. Partizan

After careful observation of the inventory taken at the Milwaukee branch on December 30, 2002, it was noted that the contents of a railway car at the unloading door, were not included in the inventory count. According to the shipping terms of the purchase invoice, Yougoslavia Imports had a liability for this shipment at December 31, 2002. Below you will find the adjusting entries recommended to record this liability.

First, the contents of the railway car, located at the unloading door, constitute a liability for Yugoslavia Imports, based on the shipping terms. The freight bill states “f.o.b. Albuquerque”, which means that at the time the items are sent by the shipper, the liability transfers to the receiver (Yugoslavia Imports). Furthermore, since the freight bill calls for payment from the receiver, Yugoslavia Imports, it creates another liability for the shipping charges.

In order to correct this transaction, two journal entries are required. The entries below correct the understatement of the inventory (I78, ¶102) and the understatement of the liability (B05, ¶108), as required by generally accepted accounting principles.

Entry 1: Inventory 35,300 Accounts Payable (Supplier) 35,300

Entry 2: Freight In 1,500 Accounts Payable (Carrier) 1,500

These entries will record the liability to the shipper (entry 1), the carrier (entry 2), and will properly account for the inventory.

Please call me if you have additional questions regarding these findings.

Sincerely

Nicole Stan-VegaSenior Accountant

April 23, 2003

Mr. Sasha PartizanYugoslavia Imports8374 Basketball DriveMilwaukee, WI 46982

Dear Mr. Partizan

This letter is regarding the year-end inventory count conducted at the Milwaukee branch on December 30, 2002. After observing and verifying the inventory, it was noticed that the contents on the railway car at the loading door were not included in the inventory count. Based on the shipping terms on the purchase invoice, Yugoslavia Imports was liable for the shipment on December 30, 2002.

The carload was shipped on December 24, 2002 from Albuquerque, free on board (f.o.b.) shipping point. The invoice totaled $35,300, and the freight cost was for $1,500. When goods are shipped f.o.b. shipping point, the title passes to the buyer as soon as the seller delivers the goods to the common carrier; thus, the buyer incurs a liability for the goods as well as the related transportation costs.

Below are two journal entries required to record the liability for December 31, 2002. The entries will correct the understatement of the inventory (I78, ¶102) and the understatement of the liability (B05, ¶108) on the financial statements, as required by generally accepted accounting principles.

Journal Entry 1Inventory 35,300 Accounts Payable--Supplier 35,300

Journal Entry 2Inventory 1,500 Accounts Payable--Transportation Co. 1,500

If you have any questions, please contact me.

Very truly yours

Azniv TashdjianSenior Accountant

GROWING MONEY ACCOUNTING SERVICES, LLP18111 NORDHOFF STREETNORTHRIDGE, CA 91330

TEL. (818) 555-1234