Question

Effect of Inventory Errors

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.
During the taking of its physical inventory on December 31, 2019, Waterjet Bath Company unted its inventory as $728,660 instead of the correct amount of $719,880. Indicate the effect of the misstatement on Waterjet Bath's December 31, 2019, balance sheet and income statement for the year ended December 31, 2019.
Merchandise inventory $
Current assets $
Total assets $
Owner's equity $
Cost of merchandise sold $
Gross profit $
Net income $
Current assets $
Total assets $
Owner's equity $

Answer 1

Inventory misstatements result in incorrect financial statements. At Kate Interiors, the understated inventory led to lower assets, cost of goods sold overstatement, and an understatement of net income and owner's equity. Waterjet Bath's overstatement of inventory increased assets and net income, and overstated owner's equity.

Step-by-step explanation:

When inventory is understated or overstated, it affects the financial statements of a company. For Kate Interiors Company, the inventory was understated by $11,600 ($378,500 correct amount - $366,900 counted). This understatement would lead to an understatement of current assets and total assets by $11,600 on the balance sheet. Additionally, the cost of merchandise sold would be overstated, resulting in lower gross profit and net income. Owner's equity would also be understated by the same amount because net income is a component of equity.

For Waterjet Bath Company, the inventory was overstated by $8,780 ($728,660 counted - $719,880 correct amount). This overstatement would increase current assets and total assets by $8,780 on the balance sheet. The cost of merchandise sold would be understated, resulting in higher gross profit and net income for the year. Owner's equity would be overstated as well, since it is affected by the net income figure.

Answer 2

Effect of Inventory Errors

1. Kate Interiors Company:

Ending Inventory of $378,500 counted as $366,900.

This shows that Ending inventory is undervalued by $11,600 ($378,500 - 366,900).

The cost of goods sold will be overstated by $11,600 and the net income understated by $11,600 in the income statement.

In the balance sheet, the assets are understated by $11,600 and Equity (Retained Earnings) understated by the same amount.

2. Waterjet Bath Company:

Ending Inventory of $719,880 counted as $728,660.

This shows that Ending inventory is overvalued by $8,780 ($728,660 - 719,880).

The cost of goods sold will be understated by $8,780 and the net income overstated by $8,780 in the income statement.

In the balance sheet, the assets are overstated by $8,780 and the Equity (Retained Earnings) overstated by $8,780.

Step-by-step explanation:

An overstatement of Ending inventory results in understated cost of goods sold and overstated net income. Conversely, an understatement of ending inventory results in overstated cost of goods sold and understated net income.