[Anonymous]

As I was working through this practice problem I got a little confused on the solution compared to my actual understanding of the concept…

Here is the problem: adjustment entry-“Sales reported after year-end that should have been reported before year-end”

-What occurs to Gross Profit Ratio?

Cost of Sales(Debit) 90

A/R(Debit) 100

Sales(Credit) 100

Inventory(Credit) 90

Solution provided by book: Gross Profit Ratio Increases; Gross Profit ratio will always increase when the net change in sales minus cost of goods is positive. (100 Sales – 90 COGS = 10)

My Reasoning: Shouldn’t the change in Sales be allocated to the denominator(sales) as well thus leading to a decrease???

For example:

1.Original numbers: (500 Sales – 100 COGS) divided by 500 = 80%

2. Use of adjustment entries: (500 Sales + 100 Sales adj) – (100 COGS + 90 COGS adj) divided by (500 Sales + 100 Sales) = 68.3%

Someone please provide some thought and reasoning on this problem. I am confused if I am right or the book is right or if I should follow the books method or mine!

[musicamor]

So, you understand what the gross profit ratio is, right?

+Sales

-<COGS>

=Gross Margin

Gross margin/sales = gross margin ratio

Using example above, we are told that SALES were understated at year end; we were not given any factual information about COGS; therefore, if sales was 100 and COGS were 90, GM is 10 and GM% is 10%. If sales–that were recorded after year end but intended for year end–were 20, the calculation would be:

120 (100 +20 recorded after year end)

90 (does not change)

30 – Gross Margin

25% – Gross margin ratio

Make sense??

Texas CPA - licensed in 2012!!!

[Anonymous]

Thank you so much!

I get it now. Now that I look at the way you set it up, I realized I was just over thinking it.

[musicamor]

Glad I could help!

Texas CPA - licensed in 2012!!!

[Author]

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