Financial&managerial accounting_15e williamshakabettner chap 8

8/14/2019 Financial&managerial accounting_15e williamshakabettner chap 8

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McGraw-Hill/Irwin Copyright 2010 by The McGraw-Hill Companies, Inc. All

Inventories and the CostInventories and the Cost

of Goods Soldof Goods SoldChapter 8


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8-2

INCOME STATEMENT

Revenue

Cost of goods sold

Gross profit

Expenses

Net income

as goods

are sold

BALANCE SHEET

Asset

InventoryPurchase costs (or

manufacturing

costs)

The Flow of InventoryThe Flow of Inventory

CostsCosts


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8-3

GENERAL JOURNAL

Date Account Titles and Explanation Debit Credit

Entry on Purchase Date

Inventory $$$$

Accounts Payable $$$$

Entry on Sale Date

Cost of Goods Sold $$$$

Inventory $$$$

In a perpetual inventory system, inventoryentries parallel the flow of costs.

The Flow of InventoryThe Flow of Inventory

CostsCosts


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8-4

When identical units of inventory havedifferent unit costs, a question naturally

arises as to which of these costs should

be used in recording a sale of inventory.

Which Unit Did We Sell?Which Unit Did We Sell?


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8-5

Inventory SubsidiaryInventory Subsidiary

LedgerLedgerA separate subsidiary account is maintained

for each item in inventory.

A separate subsidiary account is maintainedfor each item in inventory.

How can we determine the unit cost for the Sept. 10 sale?

Item LL002 Primary supplier Electronic City

Description Laser Light Secondar

y supplierElectric CompanLocation Storeroom

2 Inventory level: Min: 25 Max: 200

Purchased Sold Balance

Date Units

Unit

Cost Total Units

Unit

Cost

Cost of

Goods

Sold Units

Unit

Cost Total

Sept. 5 100 30$ 3,000$ 100 30$ 3,000$

Sept. 9 75 50 3,750 100 30 3,000

75 50 3,750

Sept. 10 10 ? ? ? ? ?

? ? ?


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8-6

Inventory Valuation Methods: A Summary

Costs Allocated to:

Valuation

Method

Cost of Goods

Sold Inventory Comments

Specific Actual cost of Actual cost of units Parallels physical flow

identification the units sold remaining Logical method when unitsare unique

May be misleading for

identical units

Average cost Number of units

sold times the

Number of units on

hand times the

Assigns all units the same

average unit cost

average unit cost average unit cost Current costs are averaged

in with older costs

First-in, First-out

(FIFO)

Cost of earliest

purchases on

Cost of most

recently

Cost of goods sold is based

on older costs

hand prior to the

sale

purchased units Inventory valued at current

costs

May overstate income during

periods of rising prices; may

increase income taxes due

Last-in, First-out(LIFO)

Cost of mostrecently

Cost of earliestpurchases

Cost of goods sold shown atrecent prices

purchased units (assumed still in

inventory)

Inventory shown at old (and

perhaps out of date) costs

Most conservative method

during periods of rising

prices; often results in lower

income taxes


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Once a company has

adopted a particular

accounting method, itshould follow that

method consistently

rather than switchmethods from one

year to the next.

The Principle ofThe Principle of

ConsistencyConsistency


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The primary reason for taking a physical

inventory is to adjust the perpetual inventory

records for unrecorded shrinkage losses,

such as theft, spoilage, or breakage.

The primary reason for taking a physical

inventory is to adjust the perpetual inventory

records forunrecorded shrinkage losses,

such as theft, spoilage, or breakage.

Taking a PhysicalTaking a Physical

InventoryInventory

LCM d O h W iLCM d Oth W it


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Reduces the value

of the inventory.

Reduces the value

of the inventory.ObsolescenceObsolescence

Adjust inventory

value to the lower

of historical cost orcurrent

replacement cost

(market).

Adjust inventory

value to the lower

ofhistorical cost or

current

replacement cost

(market).

Lower of Cost

or Market

(LCM)

Lower of Cost

or Market

(LCM)

LCM and Other Write-LCM and Other Write-

DownsDowns

of Inventoryof Inventory


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Year

End

A sale should be recorded when title to

the merchandise passes to the buyer.

A sale should be recorded when title to

the merchandise passes to the buyer.

F.O.B.

shipping

point titlepasses to

buyer at the

point of

shipment.

F.O.B.

shipping

pointtitlepasses to

buyer at the

point of

shipment.

F.O.B.F.O.B.

destinationdestination

pointpoint titlepasses to

buyer at the

point of

destination.

F.O.B.F.O.B.

destinationdestination

pointpoint titlepasses to

buyer at the

point of

destination.

Goods In TransitGoods In Transit


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In a periodic inventory system, inventoryentries are as follows.

Note that an entry is not

made to inventory.

Note that an entry is not

made to inventory.

Periodic InventoryPeriodic Inventory

SystemsSystems


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In a periodic inventory system, inventoryentries are as follows.

Periodic InventoryPeriodic Inventory

SystemsSystems


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Errors in Measuring InventoryBeginning Inventory Ending Inventory

Effect on Income StatementOverstated Understated Overstated Understated

Goods Availa ble for Sa le + - NE NE

Cost of Goods Sold + - - +

Gross Profit - + + -Net Income - + + -Effect on Bala nce Sheet

Ending Inventory NE NE + -Retained Earnings - + + -

An error in ending inventory in a year will result in the

same error in the beginning inventory of the next

year.

An error in ending inventory in a year will result in the

same error in the beginning inventory of the next

year.

Importance of an AccurateImportance of an Accurate

Valuation of InventoryValuation of Inventory


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The Gross Profit MethodThe Gross Profit Method

1. Determine cost of goods

available for sale.

2. Estimate cost of goods

sold by multiplying the

net sales by the cost

ratio.

3. Deduct cost of goods sold

from cost of goods

available for sale to

determine ending

inventory.

1. Determine cost of goods

available for sale.

2. Estimate cost of goods

sold by multiplying the

net sales by the cost

ratio.

3. Deduct cost of goods sold

from cost of goods

available for sale to

determine ending

inventory.


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The Retail MethodThe Retail Method

The retail method of estimating inventory

requires that management determine the

value of ending inventory at retail prices.

The retail method of estimating inventoryrequires that management determine the

value of ending inventory at retail prices.

Goods available for sale at cost 32,500$

Goods available for sale at retail 50,000

Physical count of ending inventory priced at retail 22,000

Information for Matrix CompanyThe Retail Method

In March of 2009, Matrix Companys inventory was

destroyed by fire. At the time of the fire, Matrixs

management collected the following information:

In March of 2009, Matrix Companys inventory wasdestroyed by fire. At the time of the fire, Matrixs

management collected the following information:


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End of Chapter 8End of Chapter 8

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