Accounting for Inventories

Inventory Costs All expenditures incurred

Inventory Costs All expenditures incurred to bring the item to its

Inventory Costs All expenditures incurred to bring the item to its existing condition and location

Costs include n Invoice cost n Shipping n Cash discounts n Purchases allowances

Inventory Systems - Periodic n Compute inventory balance at end of each accounting period n Compute cost of goods sold at accounting period end

Inventory Systems - Perpetual n Compute cost of goods sold at each sale n Compute new inventory balance at each sale

Cost Flow Assumptions n Only with specific identification do we attempt to match the actual movement of product through the business with the movement of costs through the accounting system

Cost Flow Assumptions n With other inventory cost methods, we make an assumption of the movement of costs through the accounting system. n This "flow" of costs through the system need not match the movement of product through the business.

Cost Flow Assumptions n First-In, First-Out

Cost Flow Assumptions n First-In, First-Out – Earliest goods assumed to be first units sold

Cost Flow Assumptions n First-In, First-Out – Earliest goods assumed to be first units sold – Inventory made up of latest goods acquired

Cost Flow Assumptions n Last-In, First-Out

Cost Flow Assumptions n Last-In, First-Out – Newest goods assumed to be first units sold

Cost Flow Assumptions n Last-In, First-Out – Newest goods assumed to be first units sold – Inventory made up of earliest goods acquired

Cost Flow Assumptions n Average cost

Cost Flow Assumptions n Average cost – Cost of items sold is the weighted average of costs incurred

Cost Flow Assumptions n Average cost – Cost of items sold is the weighted average of costs incurred – Inventory is the weighted average of costs incurred

Inventory Example Data Jan. 1Beg Inven.200$4.00$ Apr. 10Purchase , Oct. 23Purchase , Available1,300$6, Merchandise Sales May 5500 Dec Total800

First-In First-Out Newest layer$6.00

First-In First-Out Newest layer400 $6.00$2,400

First-In First-Out Newest layer400 $6.00$2,400 Next newest layer$5.00

First-In First-Out Newest layer400 $6.00$2,400 Next newest layer100 $

First-In First-Out Newest layer400 $6.00$2,400 Next newest layer100 $ Total cost$2,900

First-In First-Out Cost of Goods Sold Beginning Inventory$ 800

First-In First-Out Cost of Goods Sold Beginning Inventory$ 800 Purchases5,900 Cost of goods available for sale$6,700

First-In First-Out Cost of Goods Sold Beginning Inventory$ 800 Purchases5,900 Cost of goods available for sale$6,700 Deduct: Ending Inventory2,900 Cost of goods sold$3,800

First-In First-Out Proof of cost of goods sold: Oldest cost layer 200 $4.00$ 800

First-In First-Out Proof of cost of goods sold: Oldest cost layer 200 $4.00$ 800 Next oldest layer 600 $5.003,000 Total$3,800

Last-In First-Out Oldest layer $4.00

Last-In First-Out Oldest layer 200 $4.00$ 800

Last-In First-Out Oldest layer 200 $4.00$ 800 Next oldest layer $5.00

Last-In First-Out Oldest layer 200 $4.00$ 800 Next oldest layer 300 $5.001,500

Last-In First-Out Oldest layer 200 $4.00$ 800 Next oldest layer 300 $5.001,500 Total cost$2,300

Last-In First-Out LIFO Periodic Inventory Cost of goods sold: Beginning inventory$ 800

Last-In First-Out LIFO Periodic Inventory Cost of goods sold: Beginning inventory$ 800 Purchase5,900 Cost of goods available$6,700

Last-In First-Out LIFO Periodic Inventory Cost of goods sold: Beginning inventory$ 800 Purchase5,900 Cost of goods available$6,700 Deduct: Ending inventory2,300 Cost of goods sold$4,400

Last-In First-Out LIFO Periodic Inventory Proof of Cost of Goods Sold

Last-In First-Out LIFO Periodic Inventory Proof of Cost of Goods Sold Newest cost layer 400 $6.00$2,400

Last-In First-Out LIFO Periodic Inventory Proof of Cost of Goods Sold Newest cost layer 400 $6.00$2,400 Next newest layer 400 $5.002,000 Total cost$4,400

Weighted Average Periodic Inventory Weighted average cost equals Cost of goods available for sale$6,700 divided by Total units available1,300 equals Weighted average cost per unit$5.1538

Weighted Average Periodic Inventory December 31 Inventory 500 units x $ = $2, units x $ = $2,577

Weighted Average Periodic Inventory Cost of goods sold:

Weighted Average Periodic Inventory Cost of goods sold: Beginning inventory$ 800 Purchases5,900 Cost of goods available$6,700

Weighted Average Periodic Inventory Cost of goods sold: Beginning inventory$ 800 Purchases5,900 Cost of goods available$6,700 Deduct: Ending inventory2,577 Cost of goods sold$4,123

Weighted Average Periodic Inventory Proof of cost of goods sold 800 units x $ = $4, units x $ = $4,123

Income Statement Comparison Periodic Inventory FIFOLIFOWA Sales$8,000$8,000$8,000 CGS3,8004,4004,123 GM$4,200$3,600$3,877 Op. expense1,0001,0001,000 Net income$3,200$2,600$2,877

Last-In First-Out LIFO - Perpetual Inventory 200 x $4 $800

Last-In First-Out LIFO - Perpetual Inventory 4/4700 x $5$ x $4 $ x $5 3500$4300

Last-In First-Out LIFO - Perpetual Inventory 4/4700 x $5$ x $4 $ x $5 3500$4300 5/5500 x $5 $ x $4 $ x $5 1000$1800

Last-In First-Out LIFO - Perpetual Inventory 4/4700 x $5$ x $4 $ x $5 3500$4300 5/5500 x $5 $ x $4 $ x $5 1000$ /23400 x $6$ x $4 $ x $ x $6 2400$4200

Last-In First-Out LIFO - Perpetual Inventory 4/4700 x $5$ x $4 $ x $5 3500$4300 5/5500 x $5 $ x $4 $ x $5 1000$ /23400 x $6$ x $4 $ x $ x $6 2400$ /19300x $6 $ x $4 $ x $ x $6 600$2400

Last-In First-Out LIFO - Perpetual Inventory 4/4700 x $5$ x $4 $ x $5 3500$4300 5/5500 x $5 $ x $4 $ x $5 1000$ /23400 x $6$ x $4 $ x $ x $6 2400$ /19300x $6 $ x $4 $ x $ x $6 600$2400 Cost of goods sold$4300

Lower of Cost or Market Class ACostMktLCM Item 1$100$120 Item 1$100$120 Item Item Class B Item 6$50$65 Item 6$50$65 Item Item 74020

Lower of Cost or Market - By Item Class ACostMktLCM Item 1$100$120$100 Item 1$100$120$100

Lower of Cost or Market - By Item Class ACostMktLCM Item 1$100$120$100 Item 1$100$120$100 Item Item

Lower of Cost or Market - By Item Class ACostMktLCM Item 1$100$120$100 Item 1$100$120$100 Item Item Class B Item 6$50$6550 Item 6$50$6550

Lower of Cost or Market - By Item Class ACostMktLCM Item 1$100$120$100 Item 1$100$120$100 Item Item Class B Item 6$50$6550 Item 6$50$6550 Item Item Total$240

Lower of Cost or Market - By Class Class ACostMktLCM Item 1$100$120 Item 1$100$120 Item Item Total$180$190$180 Total$180$190$180

Lower of Cost or Market - By Class Class ACostMktLCM Item 1$100$120 Item 1$100$120 Item Item Total$180$190$180 Total$180$190$180 Class B Item 6$50$65 Item 6$50$65 Item Item Total$90$8585 Total$90$8585 Total$265

Lower of Cost or Market- By Total Class ACostMktLCM Item 1$100$120 Item 1$100$120 Item Item Class B Item Item Item Item Total$270$275$270

Gross Margin Method Logic of Income Statement Net Sales$70 Cost of goods sold: Begin inv$ 5 Begin inv$ 5 Net purchases 50 Net purchases 50 Cost goods avail$55 Cost goods avail$55 End inv End inv Gross margin$25

Gross Margin Method Inventory Estimation Cost of goods available: Begin inv$ 20,000 Begin inv$ 20,000 Net purchases 135,000 Net purchases 135,000 Cost of goods available $155,000 Cost of goods available $155,000 Deduct cost of goods sold:

Gross Margin Method Inventory Estimation Cost of goods available $155,000 Net sales$150,000 Multiply by (1 - Gross margin rate) ( ) x 0.70 ( ) x 0.70 Est cost of goods sold 105,000 Est ending inventory$ 50,000

Gross Margin Method Proof of Answer Net sales $150,000 Cost of goods sold Begin inv$ 20,000 Begin inv$ 20,000 Net purchases 135,000 Net purchases 135,000 CGAS$155,000 CGAS$155,000 End inv 50,000 End inv 50,000 Cost of goods sold 105,000 Cost of goods sold 105,000 Gross margin$ 45,000

Inventory Errors An error in the computation of inventory at the end of one period

Inventory Errors An error in the computation of inventory at the end of one period causes an error in assets and owners equity at the end of that period

Inventory Errors An error in the computation of inventory at the end of one period causes an error in assets and owners equity at the end of that period and an error in income for two periods.

Effect of Inventory Errors n Overstatement of inventory at end of period 1 – Causes an overstatement of net income for period 1

Effect of Inventory Errors n Overstatement of inventory at end of period 1 – Causes an overstatement of net income for period 1 – and an overstatement of assets and owner's equity at period 1 end

Effect of Inventory Errors n Overstatement of inventory at end of period 1 – Causes an understatement of net income for period 2

Effect of Inventory Errors n Overstatement of inventory at end of period 1 – Causes an understatement of net income for period 2 – BUT assets and owner's equity at period 2 end will be correct

Effect of Inventory Errors n Understatement of inventory at end of period 1 – Causes an understatement of net income for period 1

Effect of Inventory Errors n Understatement of inventory at end of period 1 – Causes an understatement of net income for period 1 – and an understatement of assets and owner's equity at period 1 end

Effect of Inventory Errors n Understatement of inventory at end of period 1 – Causes an overstatement of net income for period 2

Effect of Inventory Errors n Understatement of inventory at end of period 1 – Causes an overstatement of net income for period 2 – BUT assets and owner's equity at period 2 end will be correct