Final answer:
An overstated ending inventory in 2016 would lead to an understated cost of goods sold for that year, and would therefore overstate gross margin. For 2017, this would result in an overstated COGS and an understated gross margin.
Step-by-step explanation:
Understanding the impact of an overstated inventory on a company's financial statements is a key concept in accounting. When the ending inventory for a period is overstated, the cost of goods sold (COGS) is understated because the equation for calculating COGS is beginning inventory plus purchases minus ending inventory. If the ending inventory is too high, the subtraction leads to a lower COGS.
Therefore, the correct answer to the question is:
- b) cost of goods sold for the year ended December 31, 2016, will be understated.
This understatement of COGS will lead to an overstatement of the gross margin for the same period because the gross margin is calculated by subtracting COGS from net sales. Similarly, if COGS is understated in 2016 due to overstatement of ending inventory, the beginning inventory for 2017 will be overstated, resulting in the COGS for the year ended December 31, 2017, to be overstated, and consequently, the gross margin for 2017 to be understated.