mba financial accounting - chapter 6
TRANSCRIPT
Cost of Sales and Inventories.
21 July 2012
Philippine School of Business Administration - Manila
From Asset to Expense
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Introduction of Presenter:
Johann Y. Rosales2 Financial Accounting - Cost of Sales and Inventories
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Introduction of Presenter:
The Younghusbands3 Financial Accounting - Cost of Sales and Inventories
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Audit Life with MDAC – Deloitte PH .
4 Financial Accounting - Cost of Sales and Inventories
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What is Inventories?PAS 2 defines inventories as follows:
“Inventories are assets which are held for sale in the
ordinary course of business, in the process of
production for such sale or in the form of materials or
supplies to be consumed in the production process or in
the rendering of services.”
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What is Cost of Sales?
“is the cost of the services/goods that
was billed or sold to customers.”
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Definition of terms:• Beginning Inventory
– Quantities of Merchandise on hand at the beginning of the period
• Purchases– New Purchases
• Available for Sale = Beginning Inventory + Purchases– Most that a company can sell during an accounting period
• Ending Inventory– Remaining Unsold Merchandise
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Types of Companies
1.) Merchandising
2.) Manufacturing
3.) Service
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MERCHANDISING COMPANY
10 Financial Accounting - Cost of Sales and Inventories
- their goal is to purchase inventory and resell it at a higher price to customers
- Sells goods in substantially the same physical form as that in which it acquires them.
P 50 P 150
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Merchandise Inventory
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Inventory Cost of Goods Sold
- Merchandise inventory
- Goods that the company own.
- Acquisition cost of the unsold goods
- The Acquisition cost of the goods that are already sold.
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MERCHANDISING COMPANY
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When to include the inventories in the books?
F.O.B Destination
F.O.B Shipping Point
When you OWN the inventories!
But when do you OWN the
inventories?!?
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MERCHANDISING COMPANY
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Acquisition Cost
Invoice Price Cost
Add: Freight - In
Total Cost of Purchase
Less: Purchase Discounts
Purchase returns and Allowances
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Cost of goods sold formula
Cost of Beginning Inventory
Add: Cost of Purchases
Cost of Goods Available for Sale
Less: Cost of Ending Inventory
Cost of Goods Sold
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MERCHANDISING COMPANY
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BI + N Purchases = Goods Available for Sale = Inventory, End + COGS
Beginning Inventory
Net Purchases
Goods Available for Sale (GAS)
Now, how do we split the GAS into Inventory, End and COGS???
Ending Inventory
Cost of Goods Sold
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MERCHANDISING COMPANY
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Systems for Accounting Inventories
Periodic Perpetual
- Physical count is necessary to determine the ending inventory.
- Generally used when the individual inventory items turn over rapidly and have small peso investment.
- Physical count is not necessary to determine the ending inventory.
- Commonly used where the inventory items treated individually represent a relatively large peso investment.
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Systems for Accounting Inventories
Periodic Perpetual
- Does not keep a running record of all goods bought and sold.
- Keeps a running record of all goods bought and sold. Utilizes Perpetual Inventory Card.
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MERCHANDISING COMPANY - Systems for Accounting Inventories
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Sample transactions
Periodic Perpetual1. Purchase of merchandise on account, P300,000.
Purchases 300,000 Merchandise Inventory 300,000
Account Payable 300,000 Account Payable 300,000
2. Payment of freight on the purchase, P20,000
Freight in 20,000 Merchandise Inventory 20,000
Cash 20,000 Cash 20,000
or
Cost of Goods Sold 20,000
Cash 20,000
3. Return of merchandise purchsed to supplier, P30,000
Accounts payable 30,000 Accounts payable 30,000
Purchase return 30,000 Merchandise Inventory 30,000
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MERCHANDISING COMPANY - Systems for Accounting Inventories
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Sample transactions Cont…
Periodic Perpetual4. Sale of merchandise on account, P400,000, at 40% gross profit.
Accounts receivable 400,000 SAME ENTRY
Sales 400,000
Cost of Goods Sold 240,000
Merchandise Inventory 240,000
5. Return of merchandise sold from customer, P25,000.
Sales return 25,000 SAME ENTRY
Accounts receivable 25,000
Merchandise Inventory 15,000
Cost of goods sold 15,000
6. Adjustment of ending inventory, P65,000.
Merchandise Inventory 65,000 No Entry
COGS/IS 65,000
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MERCHANDISING COMPANY - Systems for Accounting Inventories
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Sample transactions Cont…
Cost of Goods Sold - Periodic Method
Purchase 300,000 Freight in 20,000
Less: Purchase return 30,000 Total Goods Available for Sale 290,000
Less: Inventory, end 65,000 Cost of goods sold 225,000
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MERCHANDISING COMPANY - Systems for Accounting Inventories
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Sample transactions Cont…
Cost of Goods Sold - Perpetual Method
Merchandise Inventory Cost of Goods Sold
0 Beg. Ending 65,000 240,000 Sales Sales returns
15,000
300,000 Purchases Purchase Returns
30,000
20,000 Freight in Sales 240,000 Balance 225,000
15,000 Sales return
335,000 335,000
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MERCHANDISING COMPANY - Systems for Accounting Inventories
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Advantages of Perpetual Inventory system
1. Inventory monitoring
2. Strong system controls
3. Availability of Ending Inventory and Cost of Sales balances
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Inventory Estimation
An alternative to physical count
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INVENTORY ESTIMATION TECHNIQUES
1. Retail Inventory Method – In this method, purchases are recorded at both their cost and their retail selling price. The gross margin percentage of the goods available for sale is calculated from these records.
2. Gross Profit Method – is based on the assumption that the rate of gross profit remains approximately the same from period to period and therefore the ratio of cost of goods sold to net sales is relatively constant from period to period.
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Retail Inventory method
Beginning inventory valued at cost and retail price
Records vital for Retail Inventory method:
Purchases during the period at cost and at retail price
Adjustments to the original retail price:
Other adjustments
Additional Markup
Markdown Markdown Cancelation
Markup Cancelation
Departmental transfer
Breakage Damaged goods
Theft
Shrinkage Employee discount
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MERCHANDISING COMPANY
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Retail Inventory method – Basic Formula
Goods available for sale at ratail or selling price xx
Less: Net Sales (Gross sales minus Sale returns only) xx
Ending Invenory at selling price xx
Multiply by cost ratio xx
Ending Invenory at Cost xx
Cost ratio =Goods available for sale at cost
Goods available for sale at selling price
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Retail Inventory method – Terminologies
1. Initail markup – original markup on the cost of goods.
2. Original retail – the sales price at which the goods are first offered for sale.
3. Additional markup – increase in sales price above the original sales price.
4. Markup cancelation – decrease in sales price above the original sales price.
5. Net additional markup or net markup – markup minus markup cancelation.
6. Markdown – decrease in sales price below the original sales price.
7. Markdown cancelation – increase in sales price that does not increase the sales price above the original sales price.
8. Net markdown – markdown minus markdown cancelation.
9. Maintained markup – difference between cost and sales price after adjustment for all the above items. Sometimes this is referred to as “markon.”
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Retail Inventory method – Basic Formula Cost 200
1. Initial markup 40
2. Original retail or sales price 240
3. Additional markup 60
New sales price 300
4. Markup canclation 40
New sales price (not below the original sales price) 260
5. Net Markup (60-40) 20
If at this point, the item is marked down to 210
Markup canclation 20
6. Markdown (decrease in sales price below the original sales price) 30 50New sales price 210
7. Markdown cancelation (increase in sales price that does not increase the new sales price above the original sales price of 240)
20
New sales price 230
8. Net markdown (30-20) 10
9. Maintained markup (230 - 200) 30
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Retail Inventory method – Basic Formula
210
0
200
300
240
260
230
Cost
Original retail price
Initial Markup
P40
New selling price 1
P60
Additional Markup
P40
Markup Cancelation
P20 Net Markup
Markup Cancelation
P20
New selling price 2
New selling price 3
Net
M
arkd
own
P30
Markdown Cancelation
P20
New selling price 4Markdown
Mai
ntai
ned
mar
kup
P10
P30
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MERCHANDISING COMPANY
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Retail Inventory method – Treatment of other items1. Purchase discount – deducted from purchases at cost only.2. Purchase return – deducted from purchases at cost and at retail.3. Purchase allowance – deducted from purchases at cost only.4. Freight in – addition to purchases at cost only5. Departmental transfer out or debit – addition to purchases at cost and at retail.6. Departmental transfer out or credit – deduction from purchases at cost and retail.7. Sales discount and sales allowance – disregarded, meaning, not deducted from sales.8. Sales return – deducted from sales. If the account is “sales return and allowance,” the same
should be deducted from sales.9. Employee discounts – added to sales. Employee discounts are special discounts usually not
recorded because they are directly deducted from the sales price.
Only the net sales price is recorded. Consequently, the amount of sales is understated. Thus, the employee discounts are added back to sales.
10. Normal shortage, shrinkage, spoilage, breakage – This is deducted from goods available for sale at retail. Any normal shortage is usually absorbed or included in cost of goods sold.
11. Abnormal shortage, shrinkage, spoilage, breakage – This is deducted from goods available for sale at both cost and retail so as not to distort the cost ratio.
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Retail Inventory method – Approaches
1.Conservative or conventional or lower of cost or market
2.Average cost approach
3.FIFO approach
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Retail Inventory method – Sample problem
Crock Buster sells pots that cost $7.50 for $10. This yields a cost-to-retail percentage of 75%. The beginning inventory totaled $200,000 (at cost), purchases were $300,000 (at cost), and sales totaled $460,000 (at retail).
The only "givens“ are highlighted in yellow. These three data points are manipulated by the cost-to-retail percentage to solve for ending inventory cost of $155,000. Be careful to note when the percentage factors are divided and when they are multiplied.
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Retail Inventory method – Sample problem
Retail Inventory method – Sample problem
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Gross profit method
Financial Accounting - Cost of Sales and Inventories35
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Gross profit method – Basic formula
Goods available for sale (GAS) – Please refer to slide 14 to 16
Cost of sales (COS)
• Gross profit based on sales
Net sales * Cost ratio = COS
• Gross profit based on cost
Net sales / Sales ratio = COS
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Gross profit method – Basic formula
Multiply by Divide by
Note: Sales Allowance and Sales Discount are ignored, that is, not deducted from sales.
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Gross profit method – Sample problem
Assume that Tiki's inventory was destroyed by fire. Sales for the year, prior to the date of the fire were $1,000,000, and Tiki usually sells goods at a 40% gross profit rate. Therefore, Tiki can readily estimate that cost of goods sold was $600,000. Tiki's beginning of year inventory was $500,000, and $800,000 in purchases had occurred prior to the date of the fire. The inventory destroyed by fire can be estimated via the gross profit method, as shown.
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Gross profit method – Sample problem
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Types of Companies
1.) Merchandising
2.) Manufacturing
3.) Service
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MANUFACTURING COMPANY
42 Financial Accounting - Cost of Sales and Inventories
- is the use of machines, tools and labor to produce goods for use or sale.
- Converts raw materials and purchased parts into finished goods.
Finish good
Direct materials
Labor Overhead
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Inventory Cost of Goods Sold
- Materials
- Work in Process
- Finished Goods
- Factory or Manufacturing supplies
- The total manufacturing cost of the goods that are sold.
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1
1. Materials 400AP/Cash 400
2. Work in process 300Materials 300
23
4
5
3. Work in process 300Payroll/ Direct labor 100Factory utilities 50Factory insurance/Taxes 30Depreciation 20
4. Finished Goods 800
Work in process 800
6. Cost of goods sold 5Work in process 5
6
5. Cost of goods sold 1000
Finished Goods 1000
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Product Cost and Period Cost
Product cost Items of cost included in the cost of producing
goods.
cost that are related to making or acquiring the products or providing the services that directly generate the revenues of an entity.
Period cost Costs that are related to other business functions such
as selling and administration.
Period costs are generally more closely associated with a particular time period rather than with making or acquiring a product or performing a service.
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Types of Companies
1.) Merchandising
2.) Manufacturing
3.) Service
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SERVICE ORGANIZATION
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- refers to a firm engaged in a high or moderate degree of conversion using a significant amount of labor.
- A service company’s output may be tangible (an architecturaldrawing) or intangible (insurance protection).
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SERVICE ORGANIZATION
49 Financial Accounting - Cost of Sales and Inventories
1. Personal Service Organization
Three types of Service Organization
2. Building trade and repair businesses
3. Professional service firms
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Questions???
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