5. Inventory and cost of goods sold

Question 1

Merchandise Inventory:

Answer 1

The account wholesalers and retailers use to report inventory held for resale.

Question 2

Raw materials:

Answer 2

The inventory of a manufacturer before the addition of any direct labor or manufacturing overhead.

Question 3

Work in process:

Answer 3

The cost of unfinished products in a manufacturing company.

Question 4

Finished goods

Answer 4

A manufacturer’s inventory that is complete and ready for sale.

Question 5

Gross profit:

Answer 5

Sales less cost of goods sold.

Question 6

Sales revenue

Answer 6

A representation of the inflow of assets.

Question 7

Net sales

Answer 7

Sales revenue less sales returns and allowances and sales discounts. (Allowances: money given to the buyer as compensation for spoiled or damaged merchandise).

Question 8

Cost of goods available for sale

Answer 8

Beginning inventory plus cost of goods purchased. The cost of a good should include all costs associated with acquiring the good. I.e. good cost (minus discounts), transportation cost and installation cost. Keep in mind not to include extra unordinary expenses to the good like e.g. insurance purchased for the good or repairs because something broke during the installation.

Question 9

Cost of goods sold

Answer 9

Cost of goods available for sale minus ending inventory.

Question 10

Purchases

Answer 10

An account used in a periodic inventory system to record acquisitions of merchandise.

Question 11

Transportation-In

Answer 11

An adjunct account used to record freight costs paid by the buyer.

Question 12

FOB destination point

Answer 12

Terms that require the seller to pay for the cost of shipping the merchandise to the buyer.

Question 13

FOB shipping point

Answer 13

Terms that require the buyer to pay for the shipping costs.

Question 14

Gross profit ratio:

Answer 14

Gross profit divided by net sales.

Question 15

Perpetual system

Answer 15

A system in which the Inventory account is increased at the time of each purchase and decreased at the time of each sale.

Question 16

Periodic system

Answer 16

A system in which the Inventory account is updated only at the end of the period.

Question 17

Specific identification method

Answer 17

An inventory costing method that relies on matching unit costs with the actual units sold.

Question 18

Weighted average cost method

Answer 18

An inventory costing method that assigns the same unit cost to all units available for sale during the period.

Question 19

FIFO method

Answer 19

(first-in-first-out) An inventory costing method that assigns the most recent costs to ending inventory.

Question 20

LIFO method

Answer 20

(last-in-last-out) An inventory method that assigns the most recent costs to cost of goods sold.

Question 21

LIFO liquidation

Answer 21

The result of selling more units than are purchased during the period, which can have negative tax consequences if a company is using LIFO. If the company begins selling older layers of inventory bought at a lower cost, their income before taxes rises and thus also the taxes they must pay.

Question 22

LIFO conformity rule

Answer 22

The IRS requirement that when LIFO is used on a tax return, it must also be used in reporting income to stockholders.

Question 23

LIFO reserve:

Answer 23

The excess of the value of a company’s inventory stated at FIFO over the value stated at LIFO.

Question 24

Inventory profit

Answer 24

The portion of the gross profit that results from holding inventory during a period of rising prices.

Question 25

Replacement cost:

Answer 25

The current cost of a unit of inventory. (alternative to the historical cost principle. It is not accepted in accounting standards. However, it is used if the LCM rule is deemed necessary to apply).

Question 26

Lower-of-cost-or-market (LCM) rule:

Answer 26

A conservative inventory valuation approach that is an attempt to anticipate declines in the value of inventory before its actual sale. According to this, inventory should be valued at the lowest price: either acquisition cost or current market value.

Question 27

Inventory turnover ratio:

Answer 27

A measure of the number of times inventory is sold during the period. Found by dividing the cost of goods sold with the average inventory.

Question 28

Number of days’ sales in inventory:

Answer 28

A measure of how long it takes to sell inventory. Found be dividing the number of days in the period by the inventory turnover ratio.