Question

X Company prepares monthly financial statements. On May 14, the company paid a supplier for a purchase it made in April on account. X Company's accountant recorded the May 14 transaction as a decrease in Cash and a decrease in Retained Earnings. What was the effect of this incorrect entry on the May 31 financial statements?

Retained Earnings was overstated.
Inventories were understated.
Revenue was understated.
Cash was understated.
Accounts Receivable was overstated.
Accounts Payable was overstated.

Answer 1

1.                      Amount paid to supplier for purchases made in April on account- The correct entry for this transaction is

Accounts payable (Supplier Name) A/c Dr    (Reduction of Accounts payable)

    To Bank /Cash A/c                                           (Reduction of cash balance)

2.                    Instead of above entry the following entry passed

Retained earnings (Profit and loss) A/c Dr     (Reduction of retained earnings)

   To Bank /Cash A/c                                              (Reduction of cash balance)

3.                   From the above entries it is clear that instead of reducing the accounts payable the accountant reduced the retained earnings

4.                  There are two mistakes happened

1.                      Accounts payable overstated and
2.                    Retained earnings understated

Based on the above analysis, it is conclude that Accounts payable was overstated.

The option 5 is correct which is Accounts payable was overstated