In a period of rising sales, utilizing past cost and expense ratios (percent-of-sales method) when preparing pro forma financial statements will tend to ________.
A) overstate costs and overstate profits
B) overstate costs and understate profits
C) understate costs and overstate profits
D) understate costs and understate profits

Question

Quizplus · Accepted Answer

When sales are rising, using past cost and expense ratios (percent-of-sales method) will tend to overstate costs because the ratios are based on historical data when sales were lower. This will lead to an understatement of profits.

In a Period of Rising Sales, Utilizing Past Cost and Expense