2C - Inventory

Question 1

Delar Co. completed its year-end physical count of inventory. The inventory was valued at first-in, first-out (FIFO) costs and totaled $500,000. Delar subsequently noted the following two items:

1,000 units of inventory with a FIFO cost of $10 each were shipped and billed to a customer, FOB destination. These items were included in the physical count.
6,000 units at a FIFO cost of $5 each were held on consignment for one of its suppliers, but were excluded from the physical count.
What amount should Delar report as inventory at year-end?

$520,000

$530,000

$500,000

$490,000

Answer 1

$500,000

At the balance sheet date, goods in transit that were shipped FOB shipping point should be included in the inventory of the buyer; goods in transit shipped FOB destination should be included in the inventory of the seller.

Goods out on consignment should be included in the inventory of the consignor.

Goods in on consignment should not be included in the consignee’s ending inventory. Therefore, neither of the items listed requires an adjustment to the reported ending inventory balance; Delar’s ending inventory is just the $500,000

Question 2

Mast Co. converted from the FIFO method for inventory valuation to the LIFO method for financial statement and tax purposes. During a period of inflation, would Mast’s ending inventory and income tax payable using LIFO be higher or lower than FIFO?

Ending inventory: Higher
Income tax payable: Lower

Ending inventory: Lower
Income tax payable: Lower

Ending inventory: Higher
Income tax payable: Higher

Ending inventory: Lower
Income tax payable: Higher

Answer 2

Ending inventory: Lower
Income tax payable: Lower

During a period of rising prices, the last inventory items added to inventory would be the most expensive and the items that began the period in inventory would be the least expensive.

LIFO (last in, first out) would result in the last inventory items added being recognized in cost of goods sold and the earliest, less expensive items remaining in inventory. FIFO (first in, last out) would result in the more recent, more expensive items remaining in inventory and the earliest, less expensive items being recognized in cost of goods sold.

Therefore, LIFO would result in higher cost of goods sold, lower income tax expense payable (because higher cost of goods sold would result in lower taxable income), and lower ending inventory.

Question 3

The following information was obtained from Smith Co.:

Sales $275,000
Beginning inventory 30,000
Ending inventory 18,000
Smith’s gross margin is 20%. What amount represents Smith purchases?

$202,000

$232,000

$208,000

$220,000

Answer 3

$208,000

Cost of goods sold = Sales × (1 − Gross margin ratio)

$220,000 = $275,000 × 0.80
Cost of goods sold = Beginning inventory + Purchases − Ending inventory

$220,000 = $30,000 + Purchases − $18,000
Purchases = $208,000

Question 4

Which of the following statements regarding inventory accounting systems is true?

A disadvantage of the perpetual inventory system is that the inventory dollar amounts used for interim reporting purposes are estimated amounts.

An advantage of the perpetual inventory system is that the record keeping required to maintain the system is relatively simple.

An advantage of the periodic inventory system is that it provides a continuous record of the inventory balance.

A disadvantage of the periodic inventory system is that the cost of goods sold amount used for financial reporting purposes includes both the cost of inventory sold and inventory shortages.

Answer 4

A disadvantage of the periodic inventory system is that the cost of goods sold amount used for financial reporting purposes includes both the cost of inventory sold and inventory shortages.

The periodic inventory system calculates cost of goods sold as the difference between cost of goods available for sale and ending inventory. This system does not maintain records indicating what the amount of ending inventory should be. It simply requires a company to determine what the amount of ending inventory is at period end.

Therefore, there is no way to determine what portion of the items represented by the difference between cost of goods available for sale and cost of ending inventory was sold and what portion was stolen, broken and discarded, etc.

In short, this system assigns the entire difference to cost of goods sold because of the inability to determine what portion represents inventory shortages.

Question 5

Which inventory costing method would a company that wishes to maximize profits in a period of rising prices use?

FIFO

Moving average

Dollar-value LIFO

Weighted average

Answer 5

Dollar-value LIFO

Under the FIFO method, the amounts expensed as cost of goods sold are the oldest purchases. In a period of rising prices, the oldest purchases are the smallest amounts. A smaller cost of goods sold results in a larger gross profit.

Question 6

A company uses a periodic inventory system and has its cost of ending inventory understated by $4,000. Which of the following describes the effects of this error on the company’s current-year cost of goods sold and net income, respectively?

Cost of goods sold overstated; Net income overstated

Cost of goods sold understated; Net income overstated

Cost of goods sold understated; Net income understated

Cost of goods sold overstated; Net income understated

Answer 6

Cost of goods sold overstated; Net income understated

When goods are sold, the goods are removed from inventory and recognized as cost of goods sold (COGS). If inventory is understated by $4,000, it implies that $4,000 too much was removed from inventory and placed into COGS, overstating COGS. If COGS is overstated, it implies that expenses are overstated, and overstated expenses lead to understated (too low) net income.

Question 7

Cobb, Inc.’s inventory at May 1 consisted of 200 units at a total cost of $1,250. Cobb uses the periodic inventory method. Purchases for the month were as follows:

Date No. of Units Unit Cost Total Cost
May 4 20 $5.80 $116.00
May 17 80 5.50 440.00
Cobb sold 10 units on May 14 for $120. What is Cobb’s weighted-average cost of goods sold for May?

$65.00

$62.10

$60.20

$62.50

Answer 7

$60.20

Computation of average cost per unit:

Total cost of goods available for sale
(beginning inventory + purchases) $1,806 ($1,250 + $116 + $440)
Divided by total units for sale 300 (200 + 20 + 80)
= Average cost per unit $6.02
Cost of goods sold = Average cost per unit × Units sold
Cost of goods sold = $6.02 × 10 units = $60.20

Question 8

Ultra Co. uses a periodic inventory system. The following are inventory transactions for the month of January:

1/1 Beginning inventory 20,000 units at $13
1/20 Purchase 30,000 units at $15
1/23 Purchase 40,000 units at $17
1/31 Sales at $20 per unit 50,000 units
Ultra uses the LIFO method to determine the value of its inventory. What amount should Ultra report as cost of goods sold on its income statement for the month of January?

$750,000

$710,000

$1,000,000

$830,000

Answer 8

$830,000

Under a periodic system, units and costs are determined at the end of the period and are not constantly updated during the period. Periodic systems do not consider the timing of sales during the period. LIFO (last in, first out) cost of goods sold is determined as follows:

Sales of 50,000 units, recognizing the most recently added inventory to cost of goods sold:

40,000 at $17 = $680,000
10,000 at $15 = 150,000
Cost of goods sold $830,000

Question 9

The lower of cost or market rule for inventories may be applied to total inventory, to groups of similar items, or to each item. Which application generally results in the lowest inventory amount?

Total inventory

Separately to each item

Groups of similar items

All applications result in the same amount.

Answer 9

Separately to each item

When applying the lower of cost or market inventory method, the lowest total inventory amount is obtained when the lower of cost or market determination is made on an item-by-item basis because the lower value for each item is selected.

Note that inventory measured using any method other than LIFO or the retail inventory method (e.g., FIFO or average cost) is measured at the lower of cost and net realizable value (NRV), which is defined to be the estimated selling price in the ordinary course of business, less reasonably predictable costs of completion, disposal, and transportation. If the NRV of inventory is lower than its cost, the difference is recognized as a loss in earnings in the period in which it occurs

Question 10

A material overstatement in ending inventory was discovered after the year-end financial statements of a company were issued to the public. What effect did this error have on the year-end financial statements?

Current assets were understated and gross profit was overstated.

Current assets were overstated and gross profit was understated.

Current assets and gross profit were both overstated.

Current assets and gross profit were both understated.

Answer 10

Current assets and gross profit were both overstated.

The overstatement of ending inventory (a current asset) results in an understatement of cost of goods sold.
The understatement of cost of goods sold results in an overstatement of gross profit.

Question 11

Carver Co., a retailer, uses the perpetual inventory method. Carver uses the moving-average method to determine the value of its inventory. The following information relates to inventory transactions that took place during the month of March:

3/1 Beginning inventory 30,000 units at $10
3/5 Purchase 10,000 units at $12
3/10 Sales at $20 per unit 20,000 units
3/20 Purchase 20,000 units at $13
What amount should Carver report as cost of goods sold on its income statement at the end of March?

$240,000

$200,000

$210,000

$260,000

Answer 11

$210,000

Using the perpetual method of accounting under a moving-average assumption, cost of goods sold would be $210,000, calculated as follows:

Moving
Average Per-
Per-Unit Extended Unit
Date Description Units Amount Amount Amount
3/1 Beginning inventory 30,000 $10.00 $300,000
3/5 Purchase 10,000 12.00 120,000
NEW AVERAGE 40,000 420,000 $10.50*
3/10 Sale (COGS) 20,000 10.50 210,000

* ($300,000 + $120,000) ÷ (30,000 units + 10,000 units) = $420,000 ÷ 40,000 units = $10.50

Question 12

Mare Co.’s December 31, 20X1, balance sheet reported the following current assets:
Cash $ 70,000
Accounts receivable 120,000
Inventories 60,000
Total $250,000
An analysis of the accounts disclosed that accounts receivable consisted of the following:
Trade accounts $ 96,000
Allowance for uncollectible accounts (2,000)
Selling price of Mare’s unsold goods
out on consignment at 130% of
cost, not included in Mare’s
ending inventory 26,000
Total $120,000

On December 31, 20X1, the total of Mare’s current assets is:

$270,000.

$230,000.

$224,000.

$244,000

Answer 12

$244,000.
Mare’s consigned goods should be carried at cost, not selling price. Goods out on consignment remain the property of the consignor and must be included on the consignor’s balance sheet at cost.

Thus:
Cost of consigned goods = Selling price / 1.30
= $26,000 / 1.30
= $20,000
This would reduce the accounts receivable balance by $26,000 to $94,000.
Current assets:
Cash $ 70,000 70,000
Accounts receivable 120,000 (26,000) 94,000
Inventories 60,000 20,000 80,000
Total current assets $250,000 (6,000) 244,000

Question 13

Several cost flow assumptions are used for purposes of determining inventory cost. Among the most commonly used methods are the following:

a. First-in, first-out (FIFO)
b. Last-in, first-out (LIFO)
c. Average
d. Specific identification

Answer 13

Yep!

Question 14

During periods of inflation, a perpetual inventory system would result in the same dollar amount of ending inventory as a periodic inventory system under which of the following inventory valuation methods?

FIFO, Yes; LIFO, Yes

FIFO, No; LIFO, No

FIFO, No; LIFO, Yes

FIFO, Yes; LIFO, No

Answer 14

FIFO, No; LIFO, Yes

Under the FIFO inventory method, the ending inventory would consist of the last units purchased under both the perpetual and periodic inventory systems. Under the LIFO inventory method, the periodic inventory system would include in ending inventory the earliest units (beginning inventory and early purchases).

Under LIFO, the perpetual inventory system would have expensed some of the beginning inventory and early purchases when sales were made early in the year.

Question 15

Several cost flow assumptions are used for purposes of determining inventory cost. Among the most commonly used methods are the following — WHICH 2 ARE MISSING?

a. First-in, first-out (FIFO)
b. Last-in, first-out (LIFO)
c. ___
d. ____ ___

Answer 15

Average

Specific Identification

Question 16

Ashe Co. recorded the following data pertaining to raw material X during January:

Units
Date Received Cost Issued On-Hand
1/01 Inventory $8.00 3,200
1/11 Issue 1,600 =1600
1/22 Purchase 4,800 9.60 =6400
The moving-average unit cost of X inventory at January 31 is:

$9.60.

$8.96.

$8.80.

$9.20.

Answer 16

$9.20.

Moving average is an average costing method of a perpetual inventory system. Thus, after every purchase, the average unit cost must be recomputed and carried forward.

At the end of the period, there are still 1,600 units of the items bought for $8.00 each, and also the newest purchase of 4,800 units at $9.60 each. The total units at the end of the month is thus 6,400 and their total cost is $58,880, computed as the total of 1,600 × $8.00 and 4,800 × $9.60.

The unit cost is the total cost of $58,880 divided by the total number of units: $58,880 ÷ 6,400 = $9.20.

Question 17

The retail inventory method includes which of the following in the calculation of both cost and retail amounts of goods available for sale?

Purchase returns

Net markups

Freight in

Sales returns

Answer 17

Purchase returns

When applying the retail inventory method, one must compute the total cost and total retail amounts for goods available for sale. Some items are only included in one of these totals, sales returns and markups only go into the retail column, and freight in only goes into the cost column. Purchase returns are an adjustment to both columns

Question 18

A firm’s ending inventory balance was overstated by $1,000. Which of the following statements is correct according to a periodic inventory system?

The cost of goods sold was overstated by $1,000.

The gross margin was understated by $1,000.

The retained earnings were overstated by $1,000.

The cost of goods available for sale was overstated by $1,000.

Answer 18

The retained earnings were overstated by $1,000.

To solve this question, try using the inventory formula:

Cost of goods sold (COGS) = Beginning inventory (BI) + Purchases (P) – Ending inventory (EI)
If EI is overstated, then COGS is understated.

This results in overstating net income (NI). Since NI closes into retained earnings (RE) at year-end, RE would also be overstated (by $1,000). Cost of goods available for sale (CGAS) is BI + P and would not be affected by the amount in EI.

Question 19

The following information pertained to Azur Co. for the year:

Purchases $102,800
Purchase discounts 10,280
Freight-in 15,420
Freight-out 5,140
Beginning inventory 30,840
Ending inventory 20,560

What amount should Azur report as cost of goods sold for the year?

$118,220

$102,800

$128,500

$123,360

Answer 19

Question 20

Comparison of FIFO and LIFO: If prices remain unchanged, FIFO and LIFO will yield DIFFERNET results. T/F In periods of RISING prices, (LIFO/FIFO) will result in smaller inventory costs and larger cost of goods sold than (LIFO/FIFO). In periods of LOWERING prices, (LIFO/FIFO) will result in smaller inventory costs and larger cost of goods sold than (LIFO/FIFO). Of the two methods, (LIFO/FIFO) comes closest to matching current costs against current revenues. However, (LIFO/FIFO) also results in inventory being stated in terms of the oldest costs.

Answer 20

False - they will yield SIMILAR results

LIFO ; FIFO

FIFO ; LIFO

LIFO ; LIFO

Question 21

Southgate Co. paid the in-transit insurance premium for consignment goods shipped to Hendon Co., the consignee. In addition, Southgate advanced part of the commissions that will be due when Hendon sells the goods. Should Southgate include the in-transit insurance premium and the advanced commissions in inventory costs?

Southgate should include the advanced commissions but not the insurance premium.

Southgate should include both the insurance premium and the advanced commissions.

Southgate should include the insurance premium but not the advanced commissions.

Southgate should include neither the insurance premium nor the advanced commissions.

Answer 21

Southgate should include the insurance premium but not the advanced commissions.

The insurance premium is a part of the cost of getting the consigned goods to the sale location. It is a legitimate cost of inventory and should be treated as such.

The advanced commissions are simply a prepayment of future commission expense. It should be charged to prepaid commissions, and then to selling expense, not to inventory costs.

Question 22

Consigned goods: Goods out on consignment should be included in the inventory of the (consignor/consignee).

The (consignor/consignee) should include none of these goods in its inventory.

Answer 22

Consignor

Consignee

Question 23

Walt Co. adopted the dollar-value LIFO inventory method as of January 1, 20X1, when its inventory was valued at $500,000. Walt’s entire inventory constitutes a single pool. Using a relevant price index of 1.10,

Walt determined that its December 31, 20X1, inventory was $577,500 at current-year cost, and $525,000 at base-year cost. What was Walt’s dollar-value LIFO inventory on December 31, 20X1?

$527,500

$552,500

$525,000

$577,500

Answer 23

$527,500

Question 24

Dollar-Value LIFO

The objective of the dollar-value LIFO method is to state inventory on a ___ cost basis.

The procedure is essentially one of measuring ___ layers in terms of dollar values rather than physical units.

Dollar-value LIFO requires the use of a ___ ___and the concept of a base year, the year in which dollar-value LIFO is adopted

Answer 24

LIFO

inventory

Price Index

Question 25

Loft reviewed its inventory values for proper pricing at year-end under the LIFO method. The following summarizes two inventory items examined for the lower of cost or market:

Inventory Item #1__Inventory Item #2
Original cost $210,000 $400,000
Replacement cost 150,000 370,000
Net realizable value 240,000 410,000
Net realizable value
less profit margin 208,000 405,000

What amount should Loft include in inventory at year-end, if it uses the total of the inventory to apply the lower of cost or market?

$610,000

$520,000

$613,000

$650,000

Answer 25

$610,000

Inventory measured using any method other than LIFO or the retail inventory method (e.g., FIFO or average cost) is measured at the lower of cost and net realizable value (NRV), which is defined to be the estimated selling price in the ordinary course of business, less reasonably predictable costs of completion, disposal, and transportation. If the NRV of inventory is lower than its cost, the difference is recognized as a loss in earnings in the period in which it occurs.

Inventory measured using LIFO or the retail inventory method must be valued at lower of cost or market when the utility of the inventory is no longer as great as cost. Market is replacement cost unless:

• replacement cost is more than net realizable value, in which case market will be net realizable value (the ceiling) or
• replacement cost is less than net realizable value reduced by a normal profit margin, in which case market is net realizable value minus a normal profit margin (the floor).

Total original cost $210,000 + $400,000 = $610,000
Total replacement cost $150,000 + $370,000 = $520,000
Total net realizable value $240,000 + $410,000 = $650,000

Total net realizable value
less profit margin $208,000 + $405,000 = $613,000

Since replacement cost is less than realizable value less profit margin, market is the floor of $613,000. The lower of cost or market is then the cost of $610,000.

Question 26

Lower of Cost or Market

For inventory measured under last-in, first-out (LIFO) or the ___ cost method, market will be (replacement/fixed) cost unless:

a. replacement cost exceeds net realizable value (estimated selling price less costs of completion and disposal), in which case market will be net realizable value (the “___”) or
b. replacement cost is less than net realizable value reduced by a normal profit margin (the “floor”), in which case market will be the “___.”

Answer 26

retail ; replacement cost

ceiling

floor

Question 27

Lower of Cost or Market

For inventory measured under last-in, first-out (LIFO) or the retail method, market will be replacement cost unless:

a. replacement cost ___ net realizable value (estimated selling price less costs of completion and disposal), in which case market will be net realizable value (the “ceiling”) or
b. replacement cost is ___ than net realizable value reduced by a normal profit margin (the “floor”), in which case market will be the “floor.”

Answer 27

exceeds ((((This is saying if the replacement cost is HIGHER than market value, the market is the ceiling))

less than ((This is saying if the replacement cost is BELOW market value, the market is the floor))

If the replacement cost isn’t above or below market price, then the market price is the replacement cost.

Question 28

Nest uses the LIFO method to cost inventory. What amount should Nest report as inventory on January 31 under each of the following methods of recording inventory?

Perpetual: $2,600; Periodic: $2,600

Perpetual: $5,400; Periodic: $5,400

Perpetual: $2,600; Periodic: $5,400

Perpetual: $5,400; Periodic: $2,600

Answer 28

Perpetual: $5,400; Periodic: $2,600

Under the LIFO method, the last goods in are treated as the first ones included in cost of goods sold.

The perpetual method of LIFO treats units sold as coming from the last units acquired prior to that sale. Thus, the sale on January 23 leaves remaining inventory at 1,400 units at $1 (2,000 + 1,200 - 1,800). The purchase on January 28 adds $4,000 to the inventory for a total of $5,400.

When using the periodic method, the inventory is not valued until the end of the period. Under the periodic method, the ending inventory of 2,200 units is priced at the earlier prices during the year (2,000 at $1 plus 200 at $3) for a total of $2,600.

Question 29

A company manufactured 1,000 units of product during the year and sold 800 units. Costs incurred during the current year are as follows:

Direct materials and direct labor $7,000
Indirect materials and indirect labor 2,000
Insurance on manufacturing equipment 3,000
Advertising 1,000

What amount should be reported as inventory in the company’s year-end balance sheet?

$2,600

$1,800

$1,400

$2,400

Answer 29

$2,400

The work-in-process and finished-goods inventories of a manufacturing concern include the applicable direct and indirect materials and labor costs and a representative share of the manufacturing overhead costs (which would include insurance on manufacturing equipment). Inventory cost should not include any general and administrative expenses such as advertising.

Total costs incurred related to the manufacturing of inventory is $12,000 ($7,000 + $2,000 + $3,000). The $1,000 in advertising costs is expensed as incurred and is not capitalized to inventory.

There were 1,000 units produced and 800 units sold, so 200 units remain in inventory at a cost of $2,400 ($12,000 total inventory × 200/1,000 units). Note that because no cost assumptions (i.e., LIFO, FIFO, weighted average) were provided, we can assume that all inventory was manufactured at the same cost.

Question 30

Inventory cost (should/should not) include any general and administrative expenses, except for those clearly related to production.

Selling expense should never be included in inventory costs; they are ___charges (expenses).

Answer 30

should NOT

period charges

Question 31

Wollongong Company decided to begin using dollar-value LIFO at the beginning of 20X5. The inventory value at January 1, 20X5, was $250,000. The current cost of the inventory at December 31, 20X5, was $306,000. At the end of 20X6, the current cost of the inventory was $288,750. The relevant index at the end of 20X5 was 1.02 and at the end of 20X6 was 1.05. The amounts Wollongong should report for inventory at the end of 20X5 and 20X6 are:

$300,000 (20X5) and $275,500 (20X6).

$306,000 (20X5) and $276,250 (20X6).

$301,000 (20X5) and $275,500 (20X6).

$301,000 (20X5) and $276,250 (20X6).

Answer 31

$301,000 (20X5) and $275,500 (20X6).

Adjusting 20X5 ending inventory results in cost at base-year prices of $300,000 ($306,000 ÷ 1.02). The $300,000 cost at base-year prices includes two layers: beginning of 20X5 layer = $250,000 and end of 20X5 layer = $50,000.

The adjustment of the end of 20X5 layer to current-year prices = $50,000 × 1.02 = $51,000. $250,000 + $51,000 = $301,000 is reported for inventory at the end of 20X5.

Adjusting 20X6 ending inventory results in cost at base-year prices of $275,000 ($288,750 ÷ 1.05). The $275,000 cost at base-year prices includes two layers: beginning of 20X5 layer = $250,000 and end of 20X5 layer = $25,000.

Because the cost at base-year prices at the end of 20X6 is less than the cost at base-year prices at the end of 20X5 ($275,000 vs. $300,000), the layer created in 20X5 is reduced to $25,000 ($50,000 − $25,000).

The adjustment of the end of 20X5 layer to current-year prices = $25,000 × 1.02 = $25,500. $250,000 + $25,500 = $275,500 is reported for inventory at the end of 20X6.

Question 32

Answer 32

$66,000

To add an increase, a new layer, using dollar-value LIFO (last in, first out), two items are needed: the total real increase (computed using base-year costs) and the total increase in price level to date so far. Once both of these amounts are acquired, multiply them and add the product to the beginning-year inventory total.

20X2 index = Inventory at current-year cost / Inventory at
base year cost
= $80,000 / $60,000
= 1.333
20X2 layer = 20X2 index x 20X2 layer at base-year cost

= 1.333 x $15,000
= $20,000
Dollar value LIFO inventory on December 31, 20X2 = 12/31/X1 valuation + 20X2 layer = $46,000 + $20,000
= $66,000

Question 33

Lyon Co. estimated its ending inventory using a method based on the financial statements of prior periods in order to prepare its quarterly interim financial statements. What type of inventory system and method of estimating ending inventory is Lyon using?

Inventory system: Periodic; Method of estimating ending inventory: Sales method

Inventory system: Perpetual; Method of estimating ending inventory: Retail method

Inventory system: Perpetual; Method of estimating ending inventory: Gross profit method

Inventory system: Periodic; Method of estimating ending inventory: Gross profit method

Answer 33

Inventory system: Periodic; Method of estimating ending inventory: Gross profit method

Since Lyon is using prior financial statement balances, they must be under the periodic method, not the perpetual. The gross profit method can be used to estimate inventory cost when a physical inventory is impossible or impractical. It can also be used to test the reasonableness of a physical inventory.

The gross profit method is based on an assumed relationship between sales and gross profit. This assumed relationship is usually based on previous experience.

The retail method is actually a “system” for determining inventory at retail prices; the inventory at retail is then converted to cost (FIFO, LIFO, or average) or to the lower of cost or market based on the cost-to-retail ratio.

Question 34

Gross Profit Method

The gross profit method can be used to estimate inventory cost when a physical inventory is ___or ___

. It can also be used to test the ___of a physical inventory.

The basic steps in the application of the gross profit method are as follows. (You dont really need to memorize this. It’ll mainly ask about the shit above)

Step 1: Determine the cost of goods available for sale

Step 2: Compute the amount of gross profit by multiplying sales by the gross profit percentage.

Step 3: Calculate cost of goods sold (i.e., sales on a cost basis) by deducting gross profit from sales.

Step 4: Determine the ending inventory at cost by deducting cost of goods sold from the cost of goods available for sale.

Answer 34

impossible or impractical

reasonableness

Question 35

Eliason Company discovered an overstatement of ending inventory at the end of 20X5 of $27,000. Which of the following is a result of this overstatement?

Cost of goods sold is overstated by $27,000.

Net income is overstated by $27,000.

Retained earnings is correctly stated.

Net income is understated by $27,000.

Answer 35

Net income is overstated by $27,000.

The overstatement of ending inventory will cause cost of goods sold to be understated by $27,000 because that inventory should have been removed from inventory and recognized into cost of goods sold.

Because cost of goods sold is too low (understated) by $27,000, ignoring any income tax effect, this error will carry through the remainder of the income statement so that net income will be overstated (not understated) by $27,000.

At the end of 20X5, ignoring any income tax effect, retained earnings will be overstated by $27,000 because the error in net income will flow into retained earnings.

Question 36

Nomar Co. shipped inventory on consignment to Seabright Co. that cost $20,000. Seabright paid $500 for advertising that was reimbursable from Nomar. At the end of the year, 70% of the inventory was sold for $30,000.

The agreement states that a commission of 20% will be provided to Seabright for all sales.

What amount of net inventory on consignment remains on the balance sheet (statement of financial position) for the first year for Nomar?

$6,000

$6,500

$20,000

$0

Answer 36

$6,000

Inventory on consignment is inventory of the consignor, not of the consignee. The 30% of the inventory that was not sold is Nomar’s inventory, not Seabright’s inventory. Therefore, Nomar’s inventory cost is 30% of $20,000, or $6,000.

Question 37

What is the appropriate treatment for goods held on consignment?

The goods should be included in ending inventory of the consignor.

The goods should be included in cost of goods sold of the consignor when transferred to the consignee.

The goods should be included in cost of goods sold of the consignee only when sold.

The goods should be included in ending inventory of the consignee.

Answer 37

The goods should be included in ending inventory of the consignor.

Goods out on consignment have not been sold and should be included in the inventory of the consignor (owner).

Any inventory owned by the company out on a consignment sale arrangement needs to be added to the physical count of ending inventory at the company sales floor and in the warehouses.

Question 38

Based on a physical inventory taken on December 31, 20X1, Chewy Co. determined its chocolate inventory on a FIFO basis at $26,000 with a replacement cost of $20,000. Chewy estimated that, after further processing costs of $12,000, the chocolate could be sold as finished candy bars for $40,000. Chewy’s normal profit margin is 10% of sales. At what amount should Chewy report its chocolate inventory on its December 31, 20X1, balance sheet?

$28,000

$20,000

$26,000

$24,000

Answer 38

$26,000

Inventory measured using any method other than LIFO or the retail inventory method (e.g., FIFO or average cost) is measured at the lower of cost and net realizable value (NRV), which is defined to be the estimated selling price in the ordinary course of business, less reasonably predictable costs of completion, disposal, and transportation

. If the NRV of inventory is lower than its cost, the difference is recognized as a loss in earnings in the period in which it occurs.

Chewy should report chocolate inventory on December 31, 20X1 at cost of $26,000, which is lower than the NRV of $28,000 (selling price of $40,000 less processing costs of $12,000).

Question 39

Inventory measured using any method other than last-in, first-out (LIFO) or the retail inventory method (e.g., FIFO (first-in, first-out) or average cost) is measured at the lowe of ____

Answer 39

cost

Question 40

Simm Co. has determined its December 31 inventory on a LIFO basis to be $400,000. Information pertaining to the inventory follows:

Estimated selling price $408,000
Estimated cost of disposal 20,000
Normal profit margin 60,000
Current replacement cost 390,000

At December 31, what should be the amount of Simm’s inventory?

$390,000

$400,000

$328,000

$388,000

Answer 40

When computing the market price, first determine the floor and the ceiling. The ceiling is net realizable value less the sales price less costs to complete the inventory item and to dispose of it ($408,000 – $20,000 = $388,000).

The floor is net realizable value less normal profit ($388,000 – $60,000 = $328,000).

Provided the replacement cost falls within this range, it would be the designated market; however, in this case, it exceeds the ceiling amount, so the designated market value would be $388,000. Given that cost is $400,000, the lower of market or cost is market of $388,000.

Question 41

The following costs pertain to Den Co.’s purchase of inventory:

700 units of Product A $3,750
Freight-in 175
Cost of materials and labor incurred
to bring product A to saleable condition 900
Insurance cost during transit of purch. goods 100
Total $4,925

What amount should Den record as the cost of inventory as a result of this purchase?

$3,925

$4,650

$4,925

$4,825

Answer 41

$4,925

Inventory should include the net purchase price plus the indirect acquisition costs such as freight-in and handling. All of the listed costs should be included in inventory.

Question 42

As a practical matter, even the normal portion of indirect costs such as freight-in and handling are often treated as ___ ___ rather than as inventory costs.

Answer 42

period charges (expenses)

Question 43

The replacement cost of an inventory item accounted for under the retail method is below the net realizable value and above the net realizable value less a normal profit margin. The inventory item’s original cost is above the net realizable value. Under the lower of cost or market method, the inventory item should be valued at:

net realizable value less normal profit margin.

replacement cost.

net realizable value

original cost.

Answer 43

replacement cost.

At the end of a fiscal year, inventory must be assessed for a loss of value, the lower of cost or market rule. Market value is defined as replacement cost (what you could repurchase the inventory for), so long as replacement cost is less than net realizable value (what you can sell the item for) and above net realizable value minus a normal profit margin.

Here replacement cost qualifies (it is between net realizable value and net realizable value minus a normal profit margin) as the designated market. Since original cost is above replacement cost (market), market is lower than cost, and we carry the inventory at market or replacement cost.

Note that inventory measured using any method other than LIFO or the retail inventory method (e.g., FIFO or average cost) is measured at the lower of cost and net realizable value (NRV), which is defined to be the estimated selling price in the ordinary course of business, less reasonably predictable costs of completion, disposal, and transportation. If the NRV of inventory is lower than its cost, the difference is recognized as a loss in earnings in the period in which it occurs.

Question 44

Estimates of price-level changes for specific inventories are required for which of the following inventory methods?

Average cost retail

Dollar-value LIFO

Weighted-average cost

Conventional retail

Answer 44

Dollar-value LIFO

Dollar-value LIFO starts with a base-year layer valued at base-year prices. As subsequent year layers are added, these inventory layers are valued using the specific inventory prices in effect for the year in which the layer is added.

Thus, estimates of price-level changes (price indexes) for specific inventories are required in applying dollar-value LIFO.

Question 45

Seafood Trading Co. commenced operations during the year as a large importer and exporter of seafood. The imports were all from one country overseas. The export sales were conducted as drop shipments and were merely transshipped at Seattle. Seafood Trading reported the following data:

Purchases during the year $12.0 million
Shipping costs from overseas 1.5 million
Shipping costs to export customers 1.0 million
Inventory at year-end 3.0 million

What amount of shipping costs should be included in Seafood Trading’s year-end inventory valuation?

$0

$250,000

$625,000

$375,000

Answer 45

$375,000

Shipping costs from overseas (freight-in) should be included in the inventory costs. Shipping costs to export customers (freight-out) should not be included in the inventory costs. Ending inventory is 1/4th ($3,000,000 ÷ $12,000,000) of purchases.

Thus, 1/4th of shipping costs from overseas ((0.25 × $1,500,000) = $375,000) should be included in ending inventory.

Question 46

Hutch, Inc., uses the conventional retail inventory method to account for inventory. The following informa­tion relates to current-year operations:

Average
Cost Retail
Beginning inventory and purchases $600,000 $920,000
Net markups 40,000
Net markdowns 60,000
Sales 780,000

What amount should be reported as cost of sales for the current year?

$520,000

$480,000

$487,500

$525,000

Answer 46

$525,000

In the retail column, add the beginning inventory and purchases to the net markups for a subtotal of $960,000:

• $920,000 + $40,000 = $960,000

Next, divide the cost of $600,000 by this subtotal:

• $600,000 ÷ $960,000 = 0.625

Then, get the ending inventory at retail, the $960,000 subtotal less the net markdowns and sales for a total of $120,000:

• $960,000 – $60,000 – $780,000 = $120,000

Multiply the ending inventory at retail by the cost to retail percentage of 0.625 (62,5%) to reach the ending inventory at cost:

• $120,000 × 0.625 = $75,000

Cost of sales is the beginning inventory and purchases at cost, less the ending inventory at cost:

• $600,000 – $75,000 = $525,000

Note: Inventory measured using any method other than LIFO or the retail inventory method (e.g., FIFO or average cost) is measured at the lower of cost and net realizable value (NRV), which is defined to be the estimated selling price in the ordinary course of business, less reasonably predictable costs of completion, disposal, and transportation. If the NRV of inventory is lower than its cost, the difference is recognized as a loss in earnings in the period in which it occurs.

Question 47

Retail Method

The retail method is actually a “system” for determining inventory at ___ prices.

Answer 47

retail

Question 48

Bach Co. adopted the dollar-value LIFO inventory method as of January 1, 20X0. A single inventory pool and an internally computed price index are used to compute Bach’s LIFO inventory layers. Information about Bach’s dollar value inventory follows:

Inventory:
at Base- at Current-
Date Year Cost Year Cost
Jan 1, 20X0 90,000 90,000
Dec 31,20X0 120,000 180,000
Dec 31,20X1 150,000 200,000

What was the price index used to compute Bach’s 20X1 dollar-value LIFO inventory layer?

1. 25
2. 09
3. 33
4. 00

Answer 48

1.33

To determine the ending inventory using dollar-value LIFO, a separate price index is used for each year of inventory. Under dollar-value LIFO, the price index for the 20X1 inventory layer is determined by dividing the 20X1 inventory layer at the current (end of the year) cost of $200,000 by the inventory at the base-year cost of $150,000. The price index used was 1.33 (rounded)

Question 49

Main Co. began its manufacturing business last year. Main uses the dollar-value LIFO method to determine the value of its inventory. Main’s inventory was valued at $100,000 at the end of last year and, using current costs, $132,000 at the end of the current year. The prices for Main’s inventory during the current year were 20% higher than last year’s prices.

What amount should Main report as inventory on its balance sheet at the end of the current year?

$110,000

$122,000

$112,000

$132,000

Answer 49

$112,000

Question 50

Draw Co. uses the average cost inventory method for internal reporting purposes and LIFO for financial statement and income tax reporting. On December 31, 20X1, the inventory was $375,000 using average cost and $320,000 using LIFO.

The unadjusted credit balance in the LIFO Reserve account on December 31, 20X1, was $35,000. What adjusting entry should Drew record to adjust from average cost to LIFO on December 31, 20X1?

Cost of Goods Sold 20,000
LIFO Reserve 20,000

Cost of Goods Sold 55,000
Inventory 55,000

Cost of Goods Sold 55,000
LIFO Reserve 55,000

Cost of Goods Sold 20,000
Inventory 20,000

Answer 50

The LIFO (last in, first out) reserve is like a valuation account, maintaining the total difference so far between the internally computed cost of the inventory and the externally reported cost of the ending inventory on the balance sheet.

To go from one figure to the other total, simply add or subtract the total accumulated difference so far, the amount in the LIFO reserve account. The total difference between the alternative computed inventory totals needs to be updated every period, and the adjustment is added (here) to cost of goods sold.

LIFO reserve balance needed on
December 31, 20X1 ($375,000 - $320,000) $55,000
Existing LIFO reserve balance 35,000
Additional reserve needed $20,000
=======

In order to increase the LIFO reserve balance to the required $55,000, Drew Co. would need to make the following adjusting entry on December 31, 20X1:

Cost of goods sold 20,000
LIFO reserve 20,000

Question 51

During a reporting period, a computer manufacturing company used raw materials of $50,000, had direct labor costs of $75,000, and had factory overhead of $30,000.

Other expenses were for advertising of $5,000, staff salaries of $10,000, and bad debt of $3,000. The company did not have a beginning balance in any inventory account. All goods manufactured during the period were sold during the period. What amount was the company’s cost of goods sold during the reporting period?

$173,000

$160,000

$155,000

$170,000

Answer 51

$155,000

Cost of goods sold = Beginning inventory + Production – Ending inventory
= $0 + ($50,000 + $75,000 + $30,000) – $0 = $155,000

The other expenses are selling or administrative and are not included in cost of goods sold.

Question 52

During periods of rising prices, when the FIFO inventory method is used, a perpetual inventory system results in an ending inventory cost that is:

lower than in a periodic inventory system.

higher or lower than in a periodic inventory system, depending on whether physical quantities have increased or decreased.

higher than in a periodic inventory system.

the same as in a periodic inventory system.

Answer 52

the same as in a periodic inventory system.

The FIFO perpetual inventory method will produce the same ending inventory as the FIFO periodic method. This is due to the fact that the “first-in” units are removed first under both methods. The only difference is that the units sold are removed immediately under the perpetual approach but only at the end of the period under the periodic approach.

The flow and amounts are the same. This is not true for any other inventory method (other than specific identification).

Question 53

Rose Co. sells one product and uses the last-in, first-out method to determine inventory cost. Information for the month of January 20X1 follows:

Total Units__Unit Cost
Beginning inventory, 1/1/X1 8,000 $8.20
Purchases, 1/5/X1 12,000 7.90
Sales 10,000

Rose has determined that at January 31, 20X1, the replacement cost of its inventory was $8 per unit and the net realizable value was $8.80 per unit. Rose’s normal profit margin is $1 per unit. Rose applies the lower of cost or market rule to total inventory and records any resulting loss. At January 31, 20X1, what should be the net carrying amount of Rose’s inventory?

$79,800

$81,400

$79,000

$80,000

Answer 53

$80,000

The lower of cost or market approach requires comparison of the “designated market” with cost. The designated market is replacement cost ($8.00) as long as it is lower than the net realizable value of the inventory ($8.80) and higher than the net realizable value of the inventory reduced by a normal profit margin ($8.80 − $1.00 = $7.80). The net realizable value (called the ceiling in applying lower of cost or market rules) is the sales price less costs to complete the inventory item and to dispose of it. The net realizable value less normal profit is known as the floor. In this example, replacement cost is between the ceiling and the floor and is used as the designated market.

The cost of ending inventory using the last-in, first-out method requires assigning the oldest available costs to the units in ending inventory. In this example, the 10,000 units in ending inventory (8,000 units in beginning inventory plus 12,000 units purchased less 10,000 units sold) have a cost of:

Total Units__Unit Cost__Total Cost
Units from beginning
inventory, 1/1/X1 8,000 $8.20 $65,600
From Purchases, 1/5/X1 2,000 7.90 15,800
Total Cost $81,400
=======

Total market of $80,000 ($8.00 × 10,000 units) is therefore lower than cost. Note that inventory measured using any method other than LIFO or the retail inventory method (e.g., FIFO or average cost) is measured at the lower of cost and net realizable value (NRV), which is defined to be the estimated selling price in the ordinary course of business, less reasonably predictable costs of completion, disposal, and transportation. If the NRV of inventory is lower than its cost, the difference is recognized as a loss in earnings in the period in which it occurs.

Question 54

Fireworks, Inc., had an explosion in its plant that destroyed most of its inventory. Its records show that beginning inventory was $40,000. Fireworks made purchases of $480,000 and sales of $620,000 during the year. Its normal gross profit percentage is 25%. It can sell some of its damaged inventory for $5,000

. The insurance company will reimburse Fireworks for 70% of its loss. What amount should Fireworks report as loss from the explosion?

$35,000

$50,000

$15,000

$18,000

Answer 54

$15,000

This problem must be solved using the gross profit method:

• Goods available for sale = $40,000 + $480,000 = $520,000
• Gross profit = $620,000 × 0.25 = $155,000
• Cost of goods sold = $620,000 - $155,000 = $465,000
• Ending inventory = $520,000 - $465,000 = $55,000
• Reimbursement = ($55,000 - $5,000) × 0.70 = $35,000
• Loss = $55,000 - $5,000 - $35,000 = $15,000

Question 55

Herc Co.’s inventory on December 31, 20X1, was $1,500,000 based on a physical count priced at cost, and before any necessary adjustment for the following:

• Merchandise costing $90,000—FOB shipping point from a vendor on December 30, 20X1, was received and recorded on January 5, 20X2.
• Goods in the shipping area were excluded from inventory although shipment was not made until January 4, 20X2. The goods, billed to the customer FOB shipping point on December 30, 20X1, had a cost of $120,000.

What amount should Herc report as inventory in its December 31, 20X1, balance sheet?

$1,500,000

$1,620,000

$1,590,000

$1,710,000

Answer 55

$1,710,000

Goods shipped FOB shipping point in transit at the end of the period are considered the buyer’s and should be included on the buyer’s records. The goods in the shipping area were not in transit and therefore should be included in inventory.

Inventory on December 31, 20X1, per physical count $1,500,000
Unrecorded purchase (in transit) 90,000
Goods not “sold” on December 31, 20X1 (not shipped) 120,000
Adjusted inventory on December 31, 20X1 $1,710,000
==========

Question 56

Goods in transit:

At the balance sheet date, goods in transit that were shipped FOB (free on board) ___ ___should be included in the inventory of the buyer.

Goods in transit shipped FOB ___should be included in the inventory of the seller.

Answer 56

shipping point

destination

Question 57

Assuming constant inventory quantities, which of the following inventory costing methods will produce a lower inventory turnover ratio in an inflationary economy?

FIFO (first in, first out)

LIFO (last in, first out)

Moving average

Weighted average

Answer 57

FIFO (first in, first out)

In an inflationary period, rising prices will cause LIFO cost of goods sold to be highest (from recent purchases) and LIFO ending inventory to be lowest (earliest purchases). FIFO will give opposite results, with a lowest cost of goods sold (from earliest purchases) and highest ending inventory (from recent purchases). Average costing will be in the middle of the other two on both measures.

Inventory turnover is the division of cost of goods sold by average inventory.

Since FIFO gives the lowest cost of goods sold and a relatively high ending inventory amount going into the denominator average, FIFO will produce the lowest inventory turnover ratio.

Lower numerators and higher denominators yield lower ratios.

Question 58

Answer 58

$3,225

Question 59

Kauf Co. had the following amounts related to the sale of consignment inventory:

Cost of merchandise shipped to consignee $72,000
Sales value for 2/3rds of inv. sold by consignee $80,000
Freight cost for merchandise shipped 7,500
Advertising paid for by consignee, to be reim. 4,500
10% commission due the consignee for the sale 8,000

What amount should Kauf report as net profit(loss) from this transaction for the year?

$14,500

$8,000

$32,000

$(12,000)

Answer 59

$14,500

The sale was for $80,000, but a 10% commission of $8,000 was paid, so the net revenue was $72,000. The cost of the goods sold was 2/3rds of cost and freight of $72,000 and $7,500 (2/3rds of $79,500, or $53,000). The gross profit would be $72,000 less $53,000, or $19,000. The net profit is gross profit less the advertising of $4,500, thus $14,500.

Question 60

On December 31 of the previous year, Jason Company adopted the dollar-value LIFO retail inventory method. Inventory data are as follows:

LIFO Cost Retail
Inventory, 12/31 previous year $360,000 $500,000
Inventory, 12/31 current year – 660,000
Increase in price level for current year 10%
Cost to retail ratio for current year 70%

Under the LIFO retail method, Jason’s inventory at December 31 of the current year should be:

$472,000.

$462,000

$483,200.

$437,000.

Answer 60

$437,000.

When applying the dollar-value LIFO retail method, you need to (as in dollar-value LIFO) restate ending-year retail to base-year prices:

• $660,000 ÷ 1.10 (1 + 10% increase) = $600,000

This is a $100,000 increase in the ending-year retail amount over the retail amount at the beginning of the year (in base-year prices).

Now, determine the ending inventory using dollar-value LIFO retail directly, by adding to the beginning inventory of $360,000 the new layer of $100,000 multiplied by both the new layer’s cost-to-retail percentage and the new layer price level of 1.1:

• $360,000 + ($100,000 × 0.7 × 1.1) = $437,000

Question 61

Which of the following statements is correct when a company applying the lower of cost or market method reports its inventory (accounted for under the LIFO method) at replacement cost?

1. The original cost is less than replacement cost.
2. The net realizable value is greater than replacement cost.

I only

II only

Neither I nor II

Both I and II

Answer 61

II only

In order for replacement cost to be reported as the lower of cost or market inventory value:

• replacement cost would have to be lower than original cost (Statement I is not correct) and
• replacement cost would have to fall below net realizable value and above net realizable value minus a normal profit margin (Statement II is correct).

Therefore, only statement II is correct. Note that inventory measured using any method other than LIFO or the retail inventory method (e.g., FIFO or average cost) is measured at the lower of cost and net realizable value (NRV), which is defined to be the estimated selling price in the ordinary course of business, less reasonably predictable costs of completion, disposal, and transportation.

If the NRV of inventory is lower than its cost, the difference is recognized as a loss in earnings in the period in which it occurs.

Question 62

Garcel, Inc. held unfinished inventory at a cost of $85,000 with a sales value of $125,000. The inventory will cost $10,500 to complete. The normal profit margin is 30% of sales.

The replacement cost of the inventory was $75,000. What amount should Garcel report (accounted for under the LIFO method) as inventory on balance sheet?

$75,000

$85,000

$114,500

$77,000

Answer 62

$77,000

A departure from the cost basis is required when the utility of goods is no longer as great as cost; for inventory, the loss should be recognized in the period in which the decline takes place. Inventory measured using any method other than LIFO or the retail inventory method (e.g., FIFO or average cost) is measured at the lower of cost and net realizable value (NRV), which is defined to be the estimated selling price in the ordinary course of business, less reasonably predictable costs of completion, disposal, and transportation. If the NRV of inventory is lower than its cost, the difference is recognized as a loss in earnings in the period in which it occurs.

In this case, market value will be the replacement cost unless replacement cost exceeds net realizable value (NRV) (estimated selling price less costs of completion and disposal), in which case market will be net realizable value (the ceiling); OR replacement cost is less than net realizable value reduced by a normal profit margin (the floor), in which case market will be the floor.

NRV (ceiling) $125,000 – $10,500 = $114,500
Replacement cost = $ 75,000
NRV - Normal profit (floor) $114,500 – (30% × $125,000) = $ 77,000

Garcel should report inventory at $77,000, the lower of cost or market. (Note: market cannot be less than the floor value of $77,000.)

Question 63

Jel Co., a consignee, paid the freight costs for goods shipped from Dale Co., a consignor. These freight costs are to be deducted from Jel’s payment to Dale when the consignment goods are sold. Until Jel sells the goods, the freight costs should be included in Jel’s

accounts receivable.

freight-out costs

cost of goods sold.

selling expenses.

Answer 63

accounts receivable.

Since the agreement stipulates that Jel may deduct the freight costs from Jel’s payment to Dale, the freight charges will be an expense (payable) to Dale. Until the payment for the goods is made, Jel should include the amount paid for freight in Jel’s accounts receivable.

Question 64

Answer 64

$2,700

Question 65

A manufacturer whose finished goods inventories are items that are routinely manufactured or otherwise produced in large quantities, on a repetitive basis, should include ________ in its cost of finished goods inventory.

interest cost

freight-out expense

trade discounts

manufacturing overhead

Answer 65

manufacturing overhead

Manufacturing overhead should be included in the cost of manufactured goods.

Interest costs should not be capitalized to inventories manufactured routinely in large quantities.

Question 66

Manufacturing overhead (should/should not) be included in the cost of manufactured goods.

Interest costs (should/should not) be capitalized to inventories manufactured routinely in large quantities.

Answer 66

should be

should not

Question 67

Answer 67

$90,000.

First, add the beginning inventory and purchases in the cost column:

• $180,000 + $1,020,000 = $1,200,000

When seeking the lower of cost or market method for the retail method, add, in the retail column, first only the beginning inventory, the purchases, and the net markups:

• $250,000 + $1,575,000 + $175,000 = $2,000,000

Divide these subtotals, to get the cost-to-retail ratio:

• $1,200,000 ÷ $2,000,000 = 0.6

Next, from the subtotal in the retail column, subtract the sales, normal losses, and markdowns, leaving an ending inventory, at retail, of $150,000:

• $2,000,000 – $1,705,000 – $20,000 – $125,000 = $150,000

The final step to get the ending inventory at lower of average cost or market is to take the ending inventory at retail of $150,000 and multiply it by the cost to retail ratio of 0.6:

• $150,000 × 0.6 = $90,000

Note: Inventory measured using any method other than LIFO or the retail inventory method (e.g., FIFO or average cost) is measured at the lower of cost and net realizable value (NRV), which is defined to be the estimated selling price in the ordinary course of business, less reasonably predictable costs of completion, disposal, and transportation. If the NRV of inventory is lower than its cost, the difference is recognized as a loss in earnings in the period in which it occurs.

Question 68

Stone Co. had the following consignment transactions during December, year 1:

Inventory shipped on consignment to Omega Co. $36,000
Freight paid by Stone 1,800
Inventory received on consignment from Gamma Co. 24,000
Freight paid by Gamma 1,000

No sales of consigned goods were made through December 31, year 1. What amount of consigned inventory should be included in Stone’s December 31, year 1, balance sheet?

$24,000

$37,800

$36,000

$25,000

Answer 68

$37,800

Typically, under a consignment arrangement the consignor (original holder) retains ownership of the goods held by the consignee and capitalizes into inventory the freight paid to transfer the goods from the consignor to the consignee.

Stone Co. would record $37,800 in consignment inventory ($36,000 consignment inventory held by Omega Co. + $1,800 paid to transfer the inventory).

The inventory received from Gamma and the freight paid by Gamma would be recorded as consignment inventory on Gamma’s balance sheet. Stone is merely an intermediary and does not have rights to those assets

Question 69

Under a consignment arrangement, the consignor (owner) transfers merchandise to the consignee, who attempts to sell the merchandise for the consignor.

Typically, the ___ retains ownership of the property and reimburses the consignee for costs of selling, including a commission on the sale.

Answer 69

consignor

Question 70

The original cost of an inventory item accounted for under the FIFO method is above the replacement cost. The inventory item’s replacement cost is above the net realizable value. Under the lower of cost or market method, the inventory item should be valued at:

replacement cost.

original cost.

net realizable value.

net realizable value less normal profit margin.

Answer 70

net realizable value.

Inventory measured using any method other than LIFO or the retail inventory method (e.g., FIFO or average cost) is measured at the lower of cost and net realizable value (NRV), which is defined to be the estimated selling price in the ordinary course of business, less reasonably predictable costs of completion, disposal, and transportation

. If the NRV of inventory is lower than its cost, the difference is recognized as a loss in earnings in the period in which it occurs. Replacement cost is no longer relevant for inventory accounted for under the FIFO method.

Question 71

In January, Stitch, Inc., adopted the dollar-value LIFO method of inventory valuation. At adoption, inventory was valued at $50,000. During the year, inventory increased $30,000 using base-year prices, and prices increased 10%. The designated market value of Stitch’s inventory exceeded its cost at year-end. What amount of inventory should Stitch report in its year-end balance sheet?

$88,000

$80,000

$85,000

$83,000

Answer 71

83,000

Using dollar-value LIFO (last in, first out) requires ending inventories to be restated at base-year price levels of the first year the method was adopted. This allows the use of the constant dollar-base-year values to be used as the way to estimate additional layer amounts, if any, in later years.

At the beginning of this year, $50,000 of inventory was on hand. During the year, an additional level of $30,000 (at base-year prices) was added. To find the ending dollar-value LIFO amount, take the beginning inventory at its value without adjustment, $50,000, and then add only the new layer at the present price level.

Thus, the answer is:

Carryforward layer ($50,000 x 1) $50,000
Plus the new layer at its additional
10% price level ($30,000 x 1.10) 33,000
Total of ending inventory dollar-value LIFO $83,000

Since designated market exceeds cost at year-end, no lower of cost or market loss of utility has occurred.

Question 72

On December 30, 20X1, Astor Corp. sold merchandise for $75,000 to Day Co. The terms of the sale were net 30, Free on Board shipping point. The merchandise was shipped on December 31, 20X1, and arrived at Day on January 5, 20X2. Due to a clerical error, the sale was not recorded until January 20X2 and the merchandise, sold at a 25% markup, was included in Astor’s inventory on December 31, 20X1. As a result, Astor’s cost of goods sold for the year ending December 31, 20X1, was:

understated by $75,000.

understated by $15,000.

understated by $60,000.

correctly stated.

Answer 72

understated by $60,000.

A sale with terms FOB shipping point is a finished sale when shipped. These items are sold and should be taken out of ending inventory and added to cost of goods sold, but at cost, not at retail.

Cost of merchandise = Sales price / Markup + 100%
= $75,000 / 1.25 = $60,000

Since the sale was not recorded until January 5 and the merchandise was included in Astor’s inventory, Astor’s cost of goods sold was understated by this $60,000 amount.

Question 73

A flash flood swept through Hat, Inc.’s, warehouse on May 1. After the flood, Hat’s accounting records showed the following:

Inventory, January 1 $35,000
Purchases, January 1 through May 1 $200,000
Sales, January 1 through May 1 250,000
Inventory not damaged by flood 30,000
Gross profit percentage on sales 40%

What amount of inventory was lost in the flood?

$150,000

$120,000

$55,000

$85,000

Answer 73

$55,000

The inventory records and the relationships between sales, gross profit, and cost of goods sold must be used to estimate the inventory lost in the flood using the gross profit method of estimation. The process is as follows:

Cost of goods sold = Sales × (1 - Gross profit ratio)

• $250,000 × 0.6 = $150,000

Total estimated ending inventory = Beginning inventory + Net purchases - Cost of goods sold

• $35,000 + 200,000 - $150,000 = $85,000

Inventory lost in flood = Total estimated inventory before flood - Inventory not damaged by flood

• $85,000 - $30,000 = $55,000

Question 74

At the end of 20X5, Eliason Company discovered an overstatement of ending inventory of $27,000 and an overstatement of ending inventory at the end of 20X6 of $19,000. At the end of 20X6, what is the result of these two inventory errors?

Net income is overstated by $8,000.

Retained earnings is overstated by $8,000.

Cost of goods sold is overstated by $8,000.

Net income is overstated by $19,000.

Answer 74

Cost of goods sold is overstated by $8,000.

The overstatement of $27,000 in 20X5 will cause the 20X6 cost of goods sold to be overstated by $27,000 (because beginning inventory will be overstated). The overstatement of $19,000 in 20X6 will cause 20X6 cost of goods sold to be understated by $19,000. The net effect of these two errors is that 20X6 cost of goods sold will be overstated by $8,000.

Ignoring any income tax effect, in 20X6 net income and retained earnings will be understated by $8,000.

Question 75

The Super Toy Stores inventory records at December 31 revealed the following:

Inventory on hand, December 31 $350,000
Merchandise purchased FOB shipping point, shipped by
vendor on December 31, expected delivery date January 4 118,000
Merchandise shipped to customers on December 28
FOB destination, expected delivery date January 3 75,000
Goods held on consignment by Super Toy Store, not
included in inventory on hand 38,000

What was Super Toy Store’s ending inventory at December 31?

$468,000

$543,000

$393,000

$350,000

Answer 75

$543,000

Ending inventory on the balance sheet includes inventory owned and possessed ($350,000), inventory purchased and shipped by the supplier FOB shipping point by year-end ($118,000), and inventory shipped to customers but still possessed by Super Toys ($75,000), for a total balance of $543,000 ($350,000 + $118,000 + $75,000).

It does not include goods held on consignment by Super Toys but still owned by the consignee ($38,000). Similarly, it would include goods on consignment by others but still owned by Super Toys.

Note that the fact set stipulates that the $38,000 in consignment inventory was not included in the on-hand value at December 31. If it was, it would need to be subtracted as it is not inventory to Super Toys.

Question 76

Trans C . uses a periodic inventory system. The following are inventory transactions for the month of January.

1/1 Beginning inventory 10,000 units at $3
1/5 Purchase 5,000 units at $4
1/15 Purchase 5,000 units at $5
1/20 Sales at $10 per unit 10,000 units

Trans uses the average pricing method to determine the value of its inventory. What amount should Trans report as cost of goods sold on its income statement for the month of January?

$30,000

$100,000

$37,500

$40,000

Answer 76

$37,500

Question 77

The following items were included in Opal Co.’s inventory account on December 31, 20X1:

Merchandise out on consignment at sales price, including
40% markup on selling price $40,000 Goods purchased in transit, shipped FOB shipping point 36,000
Goods held on consignment by Opal 27,000

By what amount should Opal’s inventory account on December 31, 20X1, be reduced?

$43,000

$51,000

$67,000

$103,000

Answer 77

$43,000

Goods owned by Opal, which are out on consignment, and goods in transit FOB shipping (title to goods passed to Opal upon shipment) are included in year-end inventory. Goods held by Opal on consignment for another entity are not included.

Opal’s inventory should be reduced by:

Markup on merchandise out on consignment:
(40% x $40,000) 16,000
Goods held on consignment by Opal: 27,000
Total reduction $43,000
=======

Question 78

Bren Co.’s beginning inventory at January 1 was understated by $26,000, and its ending inventory was overstated by $52,000. As a result, Bren’s cost of goods sold for the year was:

overstated by $78,000.

understated by $78,000.

overstated by $26,000.

understated by $26,000.

Answer 78

understated by $78,000.

The items making up cost of goods sold (based on a periodic inventory model) are:

• add beginning inventory to net purchases to get goods available for sale,
• then subtract ending inventory from that to get cost of goods sold.

If beginning inventory is understated, then so will goods available for sale, and cost of goods sold also. If ending inventory is overstated, then too much is taken out in computing cost of goods sold, and again cost of goods sold will be understated.

Thus, if both beginning inventory is understated by $26,000 and ending inventory is overstated by $52,000, then cost of goods sold will be understated by both of those amounts together, $26,000 + $52,000, for a total understatement of cost of goods sold of $78,000.

Question 79

A company decided to change its inventory valuation method from FIFO to LIFO in a period of rising prices. What was the result of the change on ending inventory and net income in the year of the change?

Increase in both ending inventory and net income

Decrease in both ending inventory and net income

Decrease in ending inventory and increase in net income

Increase in ending inventory and decrease in net income

Answer 79

Decrease in both ending inventory and net income

In a period of rising prices, changing from FIFO to LIFO will cause ending inventory to decrease because the earlier, lower-cost items will be included.

As a result of the lower-ending inventory, cost of goods sold will be higher. (Less-ending inventory will be subtracted from cost of goods available.) The higher cost of goods sold will produce a decrease in net income.

Question 80

Garson Co. recorded goods in transit purchased FOB shipping point at year-end as purchases. The goods were excluded from ending inventory. What effect does the omission have on Garson’s assets and retained earnings at year-end?

No effect on assets; retained earnings overstated

Both assets and retained earnings understated

No effect on assets; retained earnings understated

Assets understated; no effect on retained earnings

Answer 80

Both assets and retained earnings understated

Garson should have included the goods in inventory (asset) and as ending inventory (not an expense). Title to goods shipped FOB shipping point has passed to the purchaser when the goods are in transit.