Nazir Khan, the CEO of Peshawar Inc., signed an employment contract with the company that allowed him to earn a bonus if he increased Peshawar's gross profit margin by more than 3%. The draft income statement for 2018 has just been prepared and is shown below.

The board of directors is about to meet and determine if Nazir is to be awarded his bonus. As one of the board members, you are surprised to receive an anonymous letter, supposedly from a member of the accounting department, that indicates that the CEO asked the staff member to do the following during 2018:
1. Record purchase returns of $7,000 as an increase of sales revenue.
2. Record freight of $5,000 paid on purchases of merchandise as an operating expense.
3. Record sales returns of $6,000 as an operating expense.
Instructions
(a) Assuming the staff member is right, correct the above adjustments and recalculate the gross profit margin. Is the CEO is eligible for his bonus?
(b) Did the adjustments requested by the CEO affect the profit margin?
(c) Based on the above, was any harm done to any users of the financial statements because of the adjustments made? Explain.

Transcribed Image Text:

20182017 Net sales Cost of goods sold Gross profit Operating expenses $113,000 $80,000o 62,000 48,000 51,000 32,000 21,000 8,000 Income from operations 30,000 24,0oo 9,0007,200 $ 21,00o $16,80o 45.1% 40.0% Income tax expense Net income Gross profit margin