Question

Ilene Renner was analyzing the adjusting entries for her corporation in preparation for creating her adjusted trial balance and financial statements for the period. She planned to present these financial statements to her banker to obtain a line of credit. Ilene inadvertently missed accruing the salaries for the employees for the last 3 days of the month, since the month ended on Wednesday but payday was Friday. After running the financial statements and reviewing the financial information compared to past months, she realized her error. In this review, Ilene noticed that her financial information looked more favorable for obtaining the line of credit she was requesting if she doesn’t correct her mistake. She also considered that these salaries would be recorded next month when paid, so it really didn’t matter if she did not record them in the current month. Ilene decides not to correct her errors and accrue the salaries just this one time, opting to enter all of the salary expense in the next month’s records instead of accruing what needs to be entered in the current month.

• Are there impacts on the financial statements due to this error? What are they? Be specific.
• Does the amount matter? Is there an accounting concept that allows for slight errors and omissions that do not impact the decisions made by company leadership? If so, what is it?
• Who will be affected by Ilene’s decision?
• Is this a simple matter of timing or is more at stake? Will Ilene’s financial statements look the same over the course of the year because of this choice? Or will there be differences?

Answer 1

1) Yes, considering the company leader assumptions to not to have unpaid salary adjustments, will divert the Accounting statements from Matching and Conservatism principles.

Matching principle says that following accrual concept, the revenues of a period should be matched with the expenses of that period.

Conservatism principle says that company has to account all expenses and liabilities.

2) Yes, the amount matters a lot as the retained earnings will show income which is not earned. But according to Materiality principle as the salary expenses not considered as expense is a small amount (only three days salary), so it does not matter that much.

Materiality principle says that company can violate another accounting principle if the amount is insignificant.

3) The shareholders, investors and analyst got affected by the llene’s decision, as the Accounting Statements and the Retained Earnings does not show correct picture of the Company profitability. The company hurt itself on the way, as it has to pay higher tax on the appreciated income.

4) It is a simple matter of timing because the error is only one time and the amount under consideration is a small one. Once the things a disclosed in the Appendix attached to the Accounting Statements, it will be looked the same over the course of the year. It will be termed in parity with other years accounting statements.