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10 July, 10:44

During the taking of its physical inventory on August 31, 2019, Kate Interiors Company incorrectly counted its inventory as $366,900 instead of the correct amount of $378,500. Indicate the effect of the misstatement on Kate Interiors' August 31, 2019, balance sheet and income statement for the year ended August 31, 2019. Also record the amount of each overstatement or understatement. Enter all amounts as positive numbers

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  1. 10 July, 12:21
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    Balance sheet

    Inventory - Understatement by $11,600

    Owners equity - Understatement by $11,600

    Income statement

    Cost of goods sold - Overstatement by $11,600

    Net income - Understatement by $11,600

    Explanation:

    The movement in an inventory account which is the difference between the opening and ending balances is a function of the purchases and the sales during the period.

    This is captured in the equation below

    Opening balance + purchases - cost of goods sold = ending balance

    Hence an understatement of the ending balance would result in an overstatement of the cost of goods sold thus an understatement of the net income (and owner's equity).

    The understatement in closing inventory balance is

    = $378,500 - $366,900

    = $11,600.
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