CFA Practice Question

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CFA Practice Question

If ending inventory is understated by $2,000 and beginning inventory is overstated by $3,000, net income will be ______
A. understated by $5,000.
B. overstated by $1,000.
C. overstated by $5,000.
Explanation: COGS = BI + Purchase - EI

If BI is higher, COGS is higher.

If EI is lower, COGS is higher.

Based on this relationship, COGS is overstated by $2,000 + $3,000.

Net income is understated by $5,000.

User Contributed Comments 5

User Comment
copus I think there is a mistake in the answer to this question.

Assume the following: 5,000 (BI) + 5,000 (Purchases) - 5,000 (EI)

BI is understated by 2,000. It should be 7,000.

EI is overstated by 3,000. It should be 2,000.

COGS therefore = 7,000 + 5,000 - 2,000 = 10,000


In other words, COGS is 5,000 but it should be 10,000 meaning that it is UNDERSTATED by 5,000 and NOT OVERSTATED.

If your COGS is understated, that means that your Net Income is overstated by 5,000.

....or am I missing something??
chbourke yes you did missed something: BI is overstated and EI is understated. You did the opposite.
HectorRS2 cogs:+3+0-(-2)
Profache If BI =5,000, Purchases = 10,000 and EI= 3,000, then
Actual CGS = 5,000+10,000-3,000 = 12,000
Correct CGS = 2,000+ 10,000 -5,000 = 7,000
The actual CGS is overstated by 5,000,causing the net income to be lower (understated) by 5,000
kingirm 100 + no purchase - 100 = 0 cogs
103 + no purchase - 98 = +5 cogs
so the income will be 5 understaded (minus 5)
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