At the beginning of 2012, Lion Company decided to change from the average cost inventory cost flow assumption to the FIFO cost flow assumption for financial reporting purposes. The following data are available in regard to Lion Company’s pretax operating income and cost of goods sold.
The income tax rate is 30%. The company has a simple capital structure with 100,000 shares of common stock outstanding. The company computed its 2012 income before taxes using the newly adopted inventory cost flow method. Lion Company’s 2011 and 2012 revenues were $2,500,000 and 2,800,000, respectively. Its retained earnings balances at the beginning of 2011 and 2012 (unadjusted) were $1,400,000 and $2,100,000, respectively. The company paid no dividends in any year.
(a) What is the adjustment required to Retained Earnings at the beginning of 2012 to reflect the change in accounting principle?
(b) How will Inventory be impacted as a result of this change in accounting principle?