Question

What happens to the inventory asset account when you enter a purchase order for inventory?

1) The inventory asset account increases.
2) The inventory asset account decreases.
3) The inventory asset account is not affected. Cost of Goods Sold increases.
4) No accounts are affected.

Answer 1

Option (3), Entering a purchase order for inventory does not affect the inventory asset account; it only records a commitment to purchase but no actual transaction or expense is recorded until the purchase is completed.

Step-by-step explanation:

When you enter a purchase order for inventory, option 3 is correct: The inventory asset account is not affected. A purchase order represents a commitment to purchase inventory and does not immediately result in an exchange of assets or expense recognition. Therefore, neither the inventory asset account increases nor decreases, and the cost of goods sold (COGS) does not increase at the time of issuing a purchase order.

It is only when the inventory is received and the invoice is processed that the inventory asset account is increased and the accounts payable or cash is decreased correspondingly. At this point, the actual economic resource (inventory) comes under the control of the company, and the accounting transaction is recorded.