Case study 1 Whenever ending inventory is overvalued it automatically results in Profit being overstated in the income statement. But if it is opening inventory, it results in the profit being understated.
The inventory valuation error will affect the profits for Loch Ness Ltd. As follows:
In the year ended 30 June 2008, the profit is understated by $ 55,000
In the year ended 30 June 2009, the profit is overstated by $ 70,000
In the year ended 30 June 2010, the profit is understated by $ 35,000
In the year ended 30 June 2011, the profit is overstated by $ 55,000
In the year ended 30 June 2012, the profit is overstated by $ 90,000

An incorrect inventory balance causes the reported value of assets and owner's equity on the balance sheet to be wrong. This error does not affect the balance sheet in the following accounting period, assuming the company accurately determines the inventory balance for that period. Errors in inventory do not affect the Liabilities that Loch Ness Ltd has, instead only the owner’s equity and subsequently Assets. Retained earnings are also affected. Below is a list of tables that shows the errors in the respective years balance sheet entries.

30 June 2008 Balance sheet Understated Overstated
Inventory 55,000
Accrued Liabilities (additional income tax payable) 5,500
Retained earnings 49,500
Current Assets less Current liabilities 49,500

30 June 2009 Balance sheet Understated Overstated
Inventory 15,000
Accrued Liabilities (additional income tax payable) 1,500
Retained earnings 13,500
Current Assets less Current liabilities 13,500

30 June 2010 Balance sheet Understated Overstated
Inventory 90,000
Accrued Liabilities (additional income tax payable) 9,000
Retained earnings 81,000
Current Assets less Current liabilities 81,000

30 June