An understatement of the ending inventory balance will overstate cost of goods sold and understate net income.

Question

Quizplus · Accepted Answer

This is because the ending inventory balance is used to calculate the cost of goods sold, which is subtracted from net sales to calculate gross profit. If the ending inventory is understated, it will be assumed that more inventory was sold than there actually was, which will increase the cost of goods sold, decrease gross profit, and ultimately decrease net income.

An Understatement of the Ending Inventory Balance Will Overstate Cost