Question

During its first and second years of operations, Ranger Company, a corporation using a periodic inventory system, made undiscovered errors in taking its year-end inventories that overstated year 1 ending inventory by $160,000 and overstated year 2 ending inventory by $120,000. The combined effect of these errors on reported income is:

Year 1 Year 2 Year 3

a. Overstated overstated overstated

$160,000 $280,000 $120,000

b. Overstated overstated not affected

$160,000 $120,000 ---

c. Understated understated not affected

$160,000 $280,000 ---

d. Overstated understated understated

$160,000

Answer 1

Answer:

A

Explanation:

Each year closing inventory is overstated leads to overstatement of net income by the same amount. In year 1, closing inventory was overstated by $160,000, thus overstating net income by the same amount.

In year 2, the closing inventory is also overstated thereby also making net income to be overstated by the cumulative amount ($280,000) but the impoact in year 3 is the overstatement of year 2 amount of $120,000.