BAT4M
Chapter 6
Inventory Errors
Errors occur when costing inventory because of improper:
1. Counting of Inventory
2. Pricing of Inventory
3. Recognition of legal title transfer of goods.
These errors affect both the income statement and the balance sheet.
Income Statement Effects



Both beginning and ending inventories appear on the income statement.
The ending inventory of one period automatically becomes the beginning inventory of the next
period.
Inventory errors affect the determination of cost of goods sold and net income.
To determine the Effect of the Error:
Beginning Inventory + Cost of Goods Purchased – Ending Inventory = Cost of Goods Sold
The effects on cost of goods sold can be determined by entering the incorrect data in the above formula
and then substituting the correct data.
Sales – Cost of Goods Sold = Net Income (shows the relationship between COGS and Net Income)
Inventory Error
Understate beginning inventory
Overstate beginning inventory
Understate ending inventory
Overstate ending inventory
Cost of
Goods Sold
Understated
Overstated
Overstated
Understated
Net Income
Overstated
Understated
Understated
Overstated
An error in ending inventory of the current period will have a reverse effect on net income of the next
accounting period.
Balance Sheet Effects
The effect of ending inventory errors on the balance sheet can be determined by using the basic
accounting equation:
Assets = Liabilities + Owner’s Equity
Inventory Error
Understate Ending
Inventory
Overstated Ending
Inventory
Assets
Understated
Liabilities
No Effect
Owner’s Equity
Understated
Overstated
No Effect
Overstated
BAT4M
Chapter 6