Reporting & Analyzing Inventory

Chapter 5

Determining Inventory Items

Merchandise inventory includes all goods that a company owns and holds for sale

Regardless of where the goods are located when inventory is counted

Goods in Transit

If ownership has passed to the purchaser, the goods are included in the purchaser’s inventory

FOB shipping point

Goods on Consignment

Are goods shipped by the owner, to another party.

No change in ownership of the goods

Goods Damaged or Obsolete

Are not counted in inventory if they cannot be sold.

If they can be sold at a reduced price, then included in inventory at net realizable value

NRV = Sales price – Cost of making sale

                                

Determining Inventory Costs

Merchandise inventory includes cost of expenditures necessary, directly or indirectly, to bring at item to a salable condition and location.

Freight, storage, insurance, etc.

Internal Control

Inventory account under a perpetual system is updated for each purchase and sale, but the events can cause the account balance to be different from the actual inventory available. Physical inventory Prenumbered inventory tickets Counters assigned

Inventory Costing under a Perpetual System

Four methods Specific Identification First in, First out (FIFO) Last in, First out (LIFO) Weighted Average

Illustration

Date Activity Units at Cost Units at Retail

Units Inv.

Aug 1 Beg Inv 10units @ $91 = $910 10 units

Aug 3 Purch 15 @ $106 = $1,590 25 units

8/14 Sales 20 units 5 units

8/ 17 Purch 20 @ $115 = $2300 25

8/28 Purch 10 @ $119 = $1190 35

8/31 Sales 23 12 units

55units for $5990 43 sold 12 inv.

Specific Identification

Each item in inventory can be identified with a specific purchase and invoice.

Suppose for prior example company identified that Aug 14 is 8 from $91 purchase and 12 for $106.

Suppose that 8/31 was 2 @ $913@$10615@ $1153 @ $119

Specific Identification

Date Activity Units @ Cost COGS Inv.1-Aug Beg 10 @ $91 103-Aug Purch 15 @$106 25

14-Aug Sale 8 @$91 2 @ 9112 @ 106 3 @ 106

17-Aug Purch 20 @ $115 2 @ 913 @ 10620 @ 115

28-Aug Purch 10 @ 119 3 @ 1062 @ 913 @ 10620 @ 11510 @ 119

31-Aug Sale 2 @ 913 @ 106 5 @ 11515 @ 115 7@ 1193 @ 119

Specific Identification

Cost of goods sold 8 @ $91 = $ 728 12@ 106 = $ 1,272 $2,000 2 @ $91 = $ 182 3 @ $106 = 318 15 @ 115 1,725 3 @ 119 357 2,582 Total 4,582

Specific Identification

Ending Inventory 5 @ $115 = $575 7 @ $119 = 833 TOTAL $1,408

First in, First out

Assigning costs to both inventory and cost of goods sold that assumes that inventory items are sold in the order acquired.

First in, First out

Date Activity Units @ Cost COGS Inv.1-Aug Beg 10 @ $91 103-Aug Purch 15 @$106 25

14-Aug Sale 10 @ 91 010 @ 106 5 @ $106

17-Aug Purch 20 @ $115 5 @ $10620 @ $115

28-Aug Purch 10 @ 119 5 @ $10620 @ $11510 @ 119

31-Aug Sale 5 @ $10618 @ $115 2 @ $115

10 @ $119

FIFO

Cost of Goods sold 10 @ $91 = $ 910 10 @ $106 = 1060

Total Aug 14 $1970 5@ $106 = $ 530 18@ $115= 2070

Total Aug 31 2600 TOTAL 4570

Last in, First out

Method of assigning costs assumes that the most recent purchases are sold first

                                                                               

LIFO

Activity Units @ Cost COGS Inv.Beg 10 @ $91 10@$91Purch 15 @$106 10@$91

15@$106Sale 15@$106

5@$91 5@$91Purch 20 @ $115 5 @ $91

20 @ $115Purch 10 @ 119 5 @ $91

20 @ $11510 @ 119

Sale 10 @ $11913 @ $115 5 @ $91

7 @ $115

LIFO

Cost of goods sold 8/14 15@$106 $1,590

5@$455 455 2,045 8/31 10@$119 $1,190 13@$115 1,495 2,685

Total cost of goods sold 4,730

LIFO

Ending Inventory 5 @ $91 = 455 7 @ $115 = 805 $1,260

Weighted Average

Method of assigning cost requires that we compute the weighted average cost per unit of inventory at the time of each sale.

W.A.C. = Cost of goods available for sale Units available for sale

Weighted Average

Date Activity Units @ Cost COGS Inv. Avg

1-Aug Beg 10 @ $91 10@$91 = $ 910 $91

Purch 15 @$106 10@$91 = 910

3-Aug 15@$106 = 106 $100

14-Aug Sale 20@$100

5@$100 = $500

17-Aug Purch 20 @ $115 5 @ $100 = $500

20@$115 = $2300 $112

28-Aug Purch 10 @ 119 5 @ $100=$500

20@$115 = $2300

10@$119= $1190 $114

31-Aug Sale

23@$114 12@$114 = $1368

Financial Statement Effects of Costing Methods

Specific FIFO LIFO W/AvgSales $6,050 $6,050 $6,050 $6,050Cost of goods sold $4,582 $4,570 $4,730 $4,622Gross profit $1,468 $1,480 $1,320 $1,428Expenses $450 $450 $450 $450Income before taxes $1,018 $1,030 $870 $978Income tax expense 30% $305 $309 $261 $293Net income $713 $721 $609 $695

Merchandise Inventory $1,408 $1,420 $1,260 $1,368

Effect

FIFO assigns the lowest amount to cost of goods sold – highest gross profit

LIFO assigns the highest amount to cost of goods sold – yielding lowest gross profit

Weighted average – yields the results between the two above

Specific id – depends on units sold

Lower of Cost or Market

Accounting principles require that inventory be reported at the market value (cost) of replacing inventory when market value is lower than cost.

Lower of cost or market

Select the lower cost or market price as the value of ending inventory

Per UnitItems Units Cost Market LCM End Inv

Tulips 100 $15 $16 $15 $15x100=$1500Roses 75 $25 $23 $23 $23x75 = $1725Lily 80 $16 $16 $16 $16X80 =$1280Daisy 125 $10 $11 $10 $10X125=$1250Sunflower 26 $5 $4 $4 $4X26= 104

5,859.00$

Effects of Inventory Errors

Inventory Error Cost of Goods Sold Net IncomeUnderstate End Inv Overstated UnderstatedUnderstate Beg Inv Understated OverstatedOverstate End Inv Understated OverstatedOverstate Beg Inv Overstated Understated

Effects of Inventory Errors

2004 2005 2006Sales $100,000 $100,000 $100,000Cost of goods sold Beg inv $20,000 $16,000 $20,000 Purchases $60,000 $60,000 $60,000 Goods available $80,000 $76,000 $80,000 Ending Inv $16,000 $20,000 $20,000 Cost of goods sold $64,000 $56,000 $60,000Gross profit $36,000 $34,000 $40,000

Homework

Perpetual Ex 5-1, 5-3

LCM Ex 5-5

Retail Ex 5-14