acc1002x cp-w08
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CP-W08: Inventories and Cost of Sales
Karmaine Kong A0100508X Le Hoang Van A0098100N Mahati Sridhar A0117809Y
Ong Lishan A0103485J
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Question 1
1. Compute the amount of merchandise inventorypurchased for the fiscal year 2012. Since Cost ofgoods sold reported in the income statementincludes cost of merchandise, and other relatedexpenses, assume 90% of the costs listed under cost of goods sold are cost of merchandise. Comparepurchases to cost of goods sold and state anyconclusions about the companys operations.
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Definition of Merchandise Inventory
Goods that a company owns andholds for sale
Take note of goods in transit,consignment goods, damaged/obsolete goods
Annual Report, Pg 53: Inventory in transit is considered tobe all merchandise owned by Abercrombie & Fitch that hasnot yet been received at an Abercrombie & Fitch distribution
center
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Question 1
Cost of Goods Sold for 2012 = $1,694,096
Cost of Merchandise Sold for 2012 =0.90 x $1,694,096 = $1,524,686.40
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Question 1
Beginning Inventory (2012) = $679,935 Ending Inventory (2012) = $426,962 Cost of Merchandise = $1,524,686.40
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Question 1 Beginning Inventory + Purchases
= Ending Inventory + Cost of Merchandise
Rearranging: Purchases= Ending Inventory + Cost of Merchandise -
Beginning Inventory= $426,962 + $1,524,686.40 - $679,935
= $1,271,718.40
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Question 1
Compare purchases to cost of goods sold Purchases = $1,271,718.40
Cost of goods sold = $1,694,096 Purchases is 75.1% of the cost of goods sold
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Question 1
Conclusions about A&Fs Operations Cost of goods sold > Purchases Ending inventory < Beginning inventory A&F is selling more than it purchases Inventory (Asset - Stt. of Financial Position)
depletes Purchase more inventory to ensure a healthy
inventory amount to match cost of goodssold
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Question 22. Estimate the inventory turnover ratio in the last two
years. What can you conclude from the trend in thisratio?
Inventory turnover ratio= Cost of Goods Sold / Average Inventory
Average Inventory= (Beginning Inventory + Ending Inventory) / 2
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Question 2In general Measures how many times a company sells its inventory
during a period Determines ability to pay short-term obligations
High ratio: Inventory moves more quickly through a business
Less money is tied up in inventory Excess money for can be invested
Rapid turnover is generally favourable, but problems canarise if turnover is too fast /slow.
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Question 2
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Question 2
Decreased slightly Company is not converting itsinventory into cash as quickly as before.
Figure(thousands) 2011 2012
Cost of Goods
Sold1,607,834 1,694,096
AverageInventory
( 385,857 + 569,818)/2= 477,837.50
(679,935 + 426,962)/2=553,448.50
Inventory
Turnover3.36 3.06
Days Sales inInventory
569,818/ 1,607,834 * 365=129.4
679,935/1,694,096* 365= 146.5
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Question 2 Decrease in inventory turnover rate
Company has planned and purchased a certainlevel of inventory based on sales forecasts thatdo not materialize
Look at several sequential periods of thecompanys financial statements to identify whether the decrease is temporary or a long-term problem.
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Question 2
However, decrease is not very large (9%)
Annual Report, Pg 5:The Company strives to maintain sufficient
quantities of inventory in its retail stores...TheCompany attempts to balance in-stock levels
and inventory turnover, and to takemarkdowns when required to keep merchandise
fresh and current with fashion trend
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Question 3
3. On Page 41 of the Annual Report, itmentioned that the company changed itsmethod of accounting for inventories fromthe retail method to the cost method. Explainthe difference between the retail and the costmethod.
The Company elected to change its method of accounting for inventory from the lower of cost or market utilizingthe retail method to the weighted average cost method
effective February 2, 2013.
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Question 3 Annual Report, Page 57 Reasons for change to Cost Method
Better aligns with the A&Fs focus on realizedselling margin
Improves comparability of financial results with competitors
Improves matching of cost of goods sold withthe related net sales Reflects acquisition cost of inventory
outstanding at each balance sheet date
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Question 3 Abercrombie and Fitch follows the GAAP
accounting standards as opposed to IFRS Way of accounting for inventory shrinkage for
the past 3 fiscal years is the same Shrinkage: Estimate made in each period for
lost or stolen goods
Markdown reserveunder the retailmethod
Lower of Cost orMarket (LCM)reserve under cost
method
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Question 3 - Retail Method Substitute measure used to approximate
inventory value (IV) on hand when taking aphysical count of inventory is impractical.
Requires that a record be kept of:1. Value of ending inventory goods purchased at
cost and at retail .2. Value of goods available for sale (GAFS) at
cost and at retail .3. Sales for the period.
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Question 3 - Retail Method
1.
2.
GAFS(Retail)IV(Retail) Sales
Cost-to-retail ratio GAFS(Cost) GAFS(Retail)
IV(Retail)IV(Cost) Cost-to-retail ratio
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Question 3
Retail method Inventory valuation
using projected retail value of goods
Applies markdown
reserve
Cost Method Inventory valuation
according to weightedaverage cost
Applies LCM reserve
More conservative
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Question 3- Retail methodMarkdown Reserve
Recording a valuation reserve that representsestimated future permanent markdowns required
to sell-through the inventory
Reduces inventory value by:
Valuation reserve can fluctuate depending onthe timing of markdowns previously recognized
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Question 3- Cost method Weighted Average Cost Average cost = Cost of Goods Available for Sale
Units on hand on the date of Sale
Cost of inventory items > Amount expected to berealised from sale of goods
Lower of Cost or Market (LCM)
Reduce inventory value only when:
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Question 4
4. If the ending inventory of the company isreported $1 million higher because of thechange from the retail method to the costmethod, what is the effect of such anaccounting policy change on income beforeincome taxes for the current fiscal year?
Effective February 2, 2013, the Company changed itsmethod of accounting for inventories from the retailmethod to the cost method.
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Question 4
Beginninginventory
PurchasesGoods available
for sale
Goods availablefor Sale
EndingInventory
Cost of GoodsSold
Net SalesCost of
Goods Sold Gross Profit
Gross Profit Expenses Net income
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Question 4
Goods availablefor Sale
EndingInventory
Cost of GoodsSold
Overstated by $1 million
Understated by $1 million
Actual ending inventory is $1 million lower than reported
Actual Cost of Goods sold is $1 million higher than
reported
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Question 4
Net SalesCost of
Goods SoldGross Profit
Understated by $1 million
Overstated by $1 million
Actual Gross Profit is $1 million lower than reported
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Question 4
Gross Profit Expenses Net income
Overstated by $1 million
Overstated by $1 million
Actual net income of Abercrombie and Fitch is $1 millionlower than reported in the current fiscal year
Leads to an understatement of income tax
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Thank you
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