Chapter 5, Problem 8P

To determine

Prepare a corrected comparative income statement for the years 2020 and 2019 of Company T.

Explanation of Solution

Horizontal analysis of financial statements: In horizontal analysis of financial statement, the amount of each item of the current period’s financial statement is compared with the previous period’s financial statement. The amount of each item increased or decreased in the current financial statement, and its respective percentage can be computed by taking the previous period statement as the base. This analysis is also known as trend analysis. The horizontal analysis percentage is calculated by using the given formula:

$\begin{array}{l}\text{Horizontal analysis}\\ \text{ percentage}\end{array}\}=\frac{\text{Current year}-\text{Previous year}}{\text{Base year }}\times 100$

Prepare a corrected comparative income statement for the years 2020 and 2019 of Company T.

Company T
Comparative Income Statement
For the Year Ended December 31
Particulars	2020	2019
	Amount ($)	Amount ($)
Sales	(1) $2,900,000	(2) $3,900,000
Cost of goods sold	(3) ($980,000)	(4) ($2,310,000)
Gross profit	$1,920,000	$1,590,000
Operating expenses	(5) ($1,020,000)	(6) ($1,390,000)
Operating income	$900,000	$200,000
Other item:
Loss from obsolescence inventory	($150,000)	$0
Unusual loss	$0	($60,000)
Unusual gain		$250,000
Miscellaneous	(7) ($50,000)	(8) ($90,000)
Pretax income from continuing operation	$700,000	$300,000
Less: Income tax expense	($210,000)	($90,000)
Result from discontinuing operations:
Income (loss) from operations of discontinued division	(9) ($210,000)	(10) $210,000
Loss on write-down of held-for-sale backscratcher	(11) ($112,000)	$0
Net income	$168,000	$420,000

Table (1)

Working note (1):

Calculate the amount of sales for 2020:

$\begin{array}{c}\text{Sales for 2020 = }\left(\begin{array}{l}\text{Sales for 2020 in income statement}-\\ \text{Sales in June operating results}-\\ \text{Sales for December operating results}\end{array}\right)\\ =\$3,500,000-\$400,000-\$200,000\\ =\$2,900,000\end{array}$

Working note (2):

Calculate the amount of sales for 2019:

$\begin{array}{c}\text{Sales for 2019 = }\left(\begin{array}{l}\text{Sales for 2019 in income statement}-\\ \text{Sales for 2019}\text{in operating results}\end{array}\right)\\ =\$4,600,000-\$700,000\\ =\$3,900,000\end{array}$

Working note (3):

Calculate the amount of cost of goods sold for 2020:

$\begin{array}{c}\text{Cost of goods sold for 2020 = }\left(\begin{array}{l}\text{Cost of goods sold for 2020 in income statement}-\\ \text{Cost of goods sold in June operating results}-\\ \text{Cost of goods sold for December operating results}\end{array}\right)\\ =\$1,600,000-\$320,000-\$300,000\\ =\$980,000\end{array}$

Working note (4):

Calculate the amount of cost of goods sold for 2019:

$\begin{array}{c}\text{Cost of goods sold}\text{for 2019 = }\left(\begin{array}{l}\text{Cost of goods sold for 2019 in income statement}-\\ \text{Cost of goods sold for 2019}\text{in operating results}\end{array}\right)\\ =\$2,600,000-\$290,000\\ =\$2,310,000\end{array}$

Working note (5):

Calculate the amount of operating expenses for 2020:

$\begin{array}{c}\text{Operating expenses for 2020 = }\left(\begin{array}{l}\text{Operating expenses for 2020 in income statement}-\\ \text{Operating expenses in June operating results}-\\ \text{Operating expenses for December operating results}\end{array}\right)\\ =\$1,300,000-\$180,000-\$100,000\\ =\$1,020,000\end{array}$

Working note (6):

Calculate the amount of operating expenses for 2019:

$\begin{array}{c}\text{Operating expenses}\text{for 2019= }\left(\begin{array}{l}\text{Operating expenses for 2019 in income statement}-\\ \text{Operating expenses for 2019}\text{in operating results}\end{array}\right)\\ =\$1,500,000-\$110,000\\ =\$1,390,000\end{array}$

Working note (7):

Calculate the amount of miscellaneous expenses for 2020:

$\begin{array}{c}\text{Miscellaneous expenses}\text{for 2020 = Other item}+\text{Loss in 2020 }\\ =-\$200,000+\$150,000\\ =-\$50,000\end{array}$

Working note (8):

Calculate the amount of miscellaneous expenses for 2019:

$\begin{array}{c}\text{Miscellaneous expenses}\text{for 2019 = }\left[\begin{array}{l}\left(\text{Other item}+\text{Loss in 2019}\right)\\ -\text{Gain in 2019}\end{array}\right]\\ =\left[\begin{array}{l}\left(\$100,000+\$60,000\right)\\ -\$250,000\end{array}\right]\\ =-\$90,000\end{array}$

Working note (9):

Calculate income/loss from operations of discontinued division for 2020:

$\begin{array}{c}\begin{array}{l}\text{Income/loss from operations of }\\ \text{discontinued division for 2020}\end{array}\}\text{=}\{\begin{array}{l}\left[\begin{array}{l}\left(\begin{array}{l}\text{Sales in June operating results+ }\\ \text{Sales for December operating results}\end{array}\right)-\\ \left(\begin{array}{l}\text{Cost of goods sold in June }\\ \text{operating results+}\\ \text{Cost of goods sold for }\\ \text{December operating results}\end{array}\right)\\ -\left(\begin{array}{l}\text{Operating expenses in June}\\ \text{ operating results}-\\ \text{Operating expenses for December}\\ \text{ operating results}\end{array}\right)\end{array}\right]\\ \times 70\%\end{array}\}\\ =\{\left[\begin{array}{l}\left(\$400,000+\$200,000\right)-\\ \left(\$320,000+\$300,000\right)\\ -\left(\$180,000+\$100,000\right)\times 70\%\end{array}\right]\}\\ =\{\begin{array}{l}\left(\$600,000-\$620,000-\$280,000\right)\\ \times 70\%\end{array}\}\\ =-\$210,000\end{array}$

Working note (10):

Calculate income/loss from operations of discontinued division for 2019:

$\begin{array}{c}\begin{array}{l}\text{Income/loss from}\\ \text{operations of discontinued }\\ \text{division for 2019 }\end{array}\}\text{=}\left[\begin{array}{l}\left(\begin{array}{l}\text{Sales for 2019}\text{in operating results}-\\ \text{Cost of goods sold for 2019}\text{in operating results}\\ -\text{Operating expenses for 2019}\text{in operating results}\end{array}\right)\\ \times 70\%\end{array}\right]\\ =\left[\begin{array}{l}\left(\$700,000-\$290,000-\$110,000\right)\\ \times 70\%\end{array}\right]\\ =\$210,000\end{array}$

Working note (11):

Calculate loss on write-down of held-for-sale backscratcher:

$\begin{array}{c}\begin{array}{l}\text{Loss on write-down of held-for-sale }\\ \text{backscratcher for 2020 }\end{array}\}\text{=}\{\left[\begin{array}{l}\left(\begin{array}{l}\text{Fair value of assets}-\\ \text{Fair value of liabilities}\end{array}\right)-\\ \left(\begin{array}{l}\text{Book value of assets}-\\ \text{Book value of liabilities}\end{array}\right)\end{array}\right]\times 70\%\}\\ =\{\left[\begin{array}{l}\left(\$620,000-\$510,000\right)\\ -\left(\$720,000-\$450,000\right)\end{array}\right]\times 70\%\}\\ =\left[\begin{array}{l}\left(\$110,000-\$270,000\right)\\ \times 70\%\end{array}\right]\\ =-\$112,000\end{array}$