Question

A company uses the periodic inventory method. If beginning inventory is understated by $10,000 because the prior's year's ending inventory was understated by $10,000. The company's ending inventory for this period is correct. The effect of this error in the current period is that (i) cost of goods sold is ___________ and (ii) net income is __________.

Answer 1

Answer:

if inventory is understated at the end of the year, the net income for the year is also understated.

Here's a brief explanation. If a company has a cost of goods available of $100,000 and it assigns too little of that cost to inventory, then too much of that cost will appear on the income statement as the cost of goods sold. Too much cost on the income statement will mean too little net income.

Another way to view this is through the accounting equation, Assets = Liabilities + Owner's Equity. If you assign too little of the cost of goods available to Assets, then the amount of Owner's Equity will be too little—caused by net income being too little.

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