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INVENTORY AND OVERHEAD Chapter Eighteen Copyright © 2014 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin.

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Presentation on theme: "INVENTORY AND OVERHEAD Chapter Eighteen Copyright © 2014 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin."— Presentation transcript:

1 INVENTORY AND OVERHEAD Chapter Eighteen Copyright © 2014 by The McGraw-Hill Companies, Inc. All rights reserved. McGraw-Hill/Irwin

2 List the key assumptions of each inventory method. 2. Calculate the cost of ending inventory and cost of goods sold for each inventory method. LU 18-1: Assigning Costs to Ending Inventory - Specific Identification; Weighted Average; FIFO; LIFO LEARNING UNIT OBJECTIVES LU 18-2: Retail Method; Gross Profit Method; Inventory Turnover; Distribution of Overhead 1. Calculate the cost ratio and ending inventory at cost for the retail method. 2. Calculate the estimated inventory using the gross profit method. 3. Explain and calculate inventory turnover. 4. Explain overhead; allocate overhead according to floor space and sales.

3 18-3 Perpetual Inventory System – Keeps a running account of inventory by updating with each transaction. INVENTORY SYSTEMS Periodic Inventory System – Relies on a physical count of inventory done periodically.

4 18-4 Number of CostTotal Units Purchasedper UnitCost Beginning inventory40$8 $320 First purchase (April 1) Second purchase (May 1) Third purchase (Oct. 1) Fourth purchase (Dec. 1) Goods available for sale 120 $1,200 Units sold 72 Units in ending inventory 48 BLUE COMPANY INVENTORY INFORMATION Step 1

5 18-5 Step 2. Calculate the cost of ending inventory. Step 3. Calculate the cost of goods sold (Step 1 -- Step 2). Step 1. Calculate the cost of goods (merchandise available for sale). Beg Inv. 4/1 5/1 10/1 12/1 SPECIFIC IDENTIFICATION METHOD

6 18-6 Cost per Unit Total Cost 20 units from April 1$ 9$ units from Oct units from Dec Cost of ending inventory$524 Cost of goods -- Cost of ending = Cost of available for sale inventory goods sold $1, $524 = $676 SPECIFIC IDENTIFICATION METHOD Step 2 Step 3

7 18-7 Step 2. Calculate the cost of ending inventory. Step 3. Calculate the cost of goods sold (Step 1 -- Step 2). WEIGHTED-AVERAGE METHOD Step 1. Calculate the average unit cost. Beg Inv. 4/1 5/1 10/1 12/1

8 18-8 WEIGHTED-AVERAGE METHOD Weighted average = Total cost of goods available for sale unit cost Total number of units available for sale Average cost of ending inventory: 48 units at $10 = $480 Cost of goods sold = Number of CostTotal Units Purchasedper UnitCost Beginning inventory 40 $ 8 $320 First purchase (April 1) Second purchase (May 1) Third purchase (Oct. 1) Fourth purchase (Dec. 1) Goods available for sale 120 $1,200 Units sold 72 Units in ending inventory 48 = $1, =$10 $1, $480 = $720

9 18-9 Step 2. Calculate the cost of ending inventory. Step 3. Calculate the cost of goods sold (Step 1 -- Step 2). FIRST-IN, FIRST-OUT METHOD Step 1. List the units to be included in the ending inventory and their costs. Beg Inv. 4/1 5/1 10/1 12/1

10 18-10 FIRST-IN, FIRST-OUT METHOD Goods available for sale -- Cost of ending inventory = Cost of goods sold Number of CostTotal Units Purchasedper UnitCost Beginning inventory 40 $ 8 $320 First purchase (April 1) Second purchase (May 1) Third purchase (Oct. 1) Fourth purchase (Dec. 1) Goods available for sale 120 $1,200 Units sold 72 Units in ending inventory units from Dec. 1 at $13$ units from Oct. 1 at $ units from May 1 at $ units in ending inventory$580 $1, $580 = $620

11 18-11 Step 2. Calculate the cost of ending inventory. Step 3. Calculate the cost of goods sold (Step 1 -- Step 2). LAST-IN, FIRST-OUT METHOD Step 1. List the units to be included in the ending inventory and their costs. Beg Inv. 4/1 5/1 10/1 12/1

12 18-12 LAST-IN, FIRST-OUT METHOD $1, $392 = $808 Number ofCostTotal Units Purchasedper UnitCost Beginning inventory40$8 $320 First purchase (April 1) Second purchase (May 1) Third purchase (Oct. 1) Fourth purchase (Dec. 1) Goods available for sale120 $1,200 Units sold 72 Units in ending inventory 48 Goods available for sale -- Cost of ending inventory = Cost of goods sold 40 units from beginning inventory at $8$320 8 units from Apr. 1 at $ units in ending inventory$392

13 18-13 SUMMARY

14 18-14 ESTIMATING INVENTORY – RETAIL METHOD Step 1. Calculate the cost of goods available for sale at cost and retail. Step 2. Calculate a cost ratio using the following formula: Cost of goods available for sale at cost Cost of goods available for sale at retail Step 3. Deduct net sales from cost of goods available for sale at retail. Step 4. Multiply the cost ratio by the ending inventory at retail.

15 18-15 CostRetail Beginning inventory$4,000$6,000 Net purchases during month 2,300 3,000 Cost of goods available for sale (Step 1)$6,300$9,000 Less net sales for month(Step 3) 4,000 Ending inventory at retail $5,000 Cost ratio ($6,300/$9,000) (Step 2) 70% Ending inventory at cost ($5,000 x.70) (Step 4)$3,500 ESTIMATING INVENTORY – RETAIL METHOD

16 18-16 ESTIMATING INVENTORY – GROSS PROFIT METHOD Step 1. Calculate the cost of goods available for sale (Beginning inventory + Net purchases). Step 2. Multiply the net sales at retail by the complement of the gross profit rate. This is the estimated cost of goods sold. Step 3. Calculate the cost of estimated ending inventory (Step 1 -- Step 2). Assuming the following, calculate the estimated inventory. Gross profit on sales 30% Beginning inventory, Jan. 1, 2013$20,000 Net purchases 8,000 Net sales at retail for Jan. 12,000 Example:

17 18-17 Beginning inventory, June 1, 2013$20,000 Net purchases 8,000 Cost of goods available for sale (Step 1)$28,000 Less estimated cost of good sold: Net sales at retail$12,000 Cost percentage (100% - 30%) (Step 2) x.70 Estimated cost of goods sold - 8,400 Estimated ending inventory, Jan. 30, 2013 (Step 3) $19,600 ESTIMATING INVENTORY – GROSS PROFIT METHOD

18 18-18 INVENTORY TURNOVER Inventory turnover is the number of times inventory is replaced during a specific time. Net sales Average inventory at retail Cost of goods sold Average inventory at cost Inventory turnover at cost = Inventory turnover at retail =

19 18-19 INVENTORY TURNOVER Net sales $32,000Cost of goods sold $22,000 Beginning inventory at retail 11,000Beginning inventory at cost 7,500 Ending inventory at retail 8,900Ending inventory at cost 5,600 Average inventory = Beginning inventory + Ending inventory 2 $32,000 $11,000 + $8,900 2 $22,000 $7,500 + $5,600 2 $22,000 $6,550 = 3.36= Usually higher due to theft, spoilage, markdowns, etc. = 3.22 $32,000 $9,950 =At retail = At cost =

20 18-20 CALCULATING THE DISTRIBUTION OF OVERHEAD BY FLOOR SPACE Step 1. Calculate the total square feet in all departments. Step 2. Calculate the ratio for each department based on floor space. Step 3. Multiply each departments floor space ratio by the total overhead.

21 18-21 Department A - 6,000 square feet Department B - 3,000 square feet Department C - 1,000 square feet Overhead of $90,000 Floor SpaceRatio Department A6,000 6,000 = 60% 10,000 Department B3,000 3,000 = 30% 10,000 Department C1,000 1,000 = 10% 10,000 Department A.60 x $90,000 = $54,000 Department B.30 x $90,000 = $27,000 Department C.10 x $90,000 = $ 9,000 CALCULATING THE DISTRIBUTION OF OVERHEAD BY FLOOR SPACE Roy Company Step 1 & 2

22 18-22 CALCULATING THE DISTRIBUTION OF OVERHEAD BY SALES Step 1. Calculate the total sales in all departments. Step 2. Calculate the ratio for each department based on sales. Step 3. Multiply each departments sales ratio by the total overhead.

23 18-23 CALCULATING THE DISTRIBUTION OF OVERHEAD BY SALES SalesRatio Department A$80,000$ 80,000 =.80 $100,000 Department B 20,000 $20,000 =.20 $100,000$100,000 Department A.80 x $60,000 = $48,000 Department B.20 x $60,000 =$12,000 $60,000 Morse Company distributes its overhead expenses based on the sales of its departments. For example, last year Morses overhead expenses were $60,000. Sales of its two departments were as follows, along with its ratio calculation. Total overhead expenses


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