Misclassification of Repairs as Capital Expenditure

Steps:

• Repairs are revenue expenditures, debited to expense accounts to reduce profit.
• Debiting repairs to machinery account capitalizes them, increasing the asset value.
• This overstates total assets by including repair costs as part of fixed assets.
• Expenses are understated, leading to overstated net profit.

Why A is correct:

• Per accrual accounting principles, capitalizing expenses violates matching principle, overstates both assets (machinery balance) and profit (via understated expenses).

Why the others are wrong:

• B: Assets are overstated, but profit is also overstated, not understated.
• C: Assets are overstated, not understated; profit is overstated.
• D: Both assets and profit are overstated, not understated.

Final answer: A