Questions: If a company mistakenly counts more items during a physical inventory than actually exist, how will the error affect its bottom line? a. Net income will be understated. b. Only gross profit will be affected. c. Net income will be overstated. d. There will be no change to net income.

The answer is c: Net income will be overstated.

Explanation for each option:

a. Net income will be understated.

• Incorrect. If more items are counted than actually exist, the inventory value will be overstated. This leads to a higher cost of goods sold (COGS) being reported as lower than it should be, which results in a higher net income, not understated.

b. Only gross profit will be affected.

• Incorrect. While gross profit will indeed be affected due to the incorrect COGS, net income will also be impacted because gross profit is a component of net income.

c. Net income will be overstated.

• Correct. Overstating inventory results in understating COGS, which increases gross profit and, consequently, net income.

d. There will be no change to net income.

• Incorrect. The error in inventory counting affects the COGS, which in turn affects both gross profit and net income.

In summary, if a company mistakenly counts more items during a physical inventory than actually exist, it will overstate its inventory, leading to an understatement of COGS and an overstatement of net income.