The ending Merchandise Inventory for the current accounting period is understated by $2,700. What effect will this error have on Cost of Goods Sold and Net Income for the current accounting period?

cost of sales has been overstated by $2,700 and;

net income has been understated by $2,700

Explanation:

The movements in the inventory balance between the start and end of a given period is usually due to purchases and sales. This may be represented mathematically as

opening balance + purchases - cost of goods sold = closing balance

The cost of goods sold is an element of the income statement that is usually subtracted from the sales to get the gross profit from which the operating expenses is deducted to get net profit.

Hence understating the ending merchandise inventory balance means that the cost of sales has been overstated by the same amount. This also means that net income has been understated.

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