Question

The CFO of the Jordan Microscope Corporation intentionally misclassified a downstream transportation expense in the amount of $575,000 as a product cost in an accounting period when the company made 5,000 microscopes and sold 4,000 microscopes. Jordan rewards its officers with bonuses that are based on net earnings.

Required

Indicate whether the elements on the financial statements (i.e., assets, liabilities, equity, revenue, expense, and net income) would be overstated or understated as a result of the misclassification of the downstream transportation expense. Determine the amount of the overstatement or understatement for each element. (If there is no effect select "Not affected" from the dropdown provided. Enter all answers as positive values.)

Answer 1

Solution:

Downstream transporation expense are in nature of selling cost and same is to be entierly expensed out in income statement instead of making part of product cost. The misclassification of downstream transportation expense as a product cost will have following impact on element of financial statements.

Assets - $115,000 ($575,000/5000*4000) Overstated - Assets are overstated as ending inventory valued at higher cost.

Liabilities - Not affected

Equity - $115,000 - Overstated as expenses are understated

Revenue - Not affected

Expenses - $115,000 - Understated as entire transportation cost is not charged to income statement

Net Income - $115,000 - Overstated