How do product costs affect the financial statements? How does the classification of product cost (as an asset vs. an expense) affect net income? Solution Product costs for goods which are yet to be sold by the company are treated as a part of inventory and hence, such costs (inventory costs) are shown in the balance sheet as assets. Inventory is reported as a current asset in the balance sheet. If product costs are treated as assets, the company\'s net income and the total value of assets will be reported at a higher value as no adjustment would be required in form of expenses on the income statement of the company. On the other hand, product costs for goods sold will be treated as expense and included in cost of goods sold to be reported in the income statement. As a result, the total amount of expense reported by the company would increase resulting in lower net income. Correspondingly, the inventory value would decrease resulting in a reduction in the value of total assets. .

1. How do product costs affect the financial statements? How does the classification of product cost
(as an asset vs. an expense) affect net income?
Solution
Product costs for goods which are yet to be sold by the company are treated as a part of
inventory and hence, such costs (inventory costs) are shown in the balance sheet as assets.
Inventory is reported as a current asset in the balance sheet. If product costs are treated as assets,
the company's net income and the total value of assets will be reported at a higher value as no
adjustment would be required in form of expenses on the income statement of the company.
On the other hand, product costs for goods sold will be treated as expense and included in cost of
goods sold to be reported in the income statement. As a result, the total amount of expense
reported by the company would increase resulting in lower net income. Correspondingly, the
inventory value would decrease resulting in a reduction in the value of total assets.