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    Inventory on Dec 31,2004 is understated by 66,000
    inventory on dec 31, 2005 is overstated by 30,000

    year sold
    2004 2005 2006
    a.cost of good 715,000 847000 770000
    b.net income 220,000 275000 231000
    c.total current
    assets 1,15,000 1,265,000 1,100,000
    d.total equity 1,287,000 1,430,000 1,232,000

    for each financial statement a,b,c,d prepare a table similar to the following

    figure 2004 2005 2006
    reported amount
    Adj for error 12/31/04
    corrected amount

    2. what is the error in total net income for the combined three year period resulting from the inventory errors?

    3. Explain why the understatement of inventory by 66,000 at then end of 2004 results in an understatement of equity by the same amount in that year.

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    Solution Preview

    Since COGS=Beginning inventory + Purchase - Ending inventory
    - Inventory on Dec 31,2004 is understated by 66,000, and this results in an overstatement in COGS in year 2004, understatement in net income, understatement in total current assets, and understatement in total equity.

    It also results in understatement in COGS in year 2005, overstatement in net income, ...

    Solution Summary

    The understatement of inventory is studied.