6.3 How cost formulas effect financial statements

Question 1

3 types of cost formulas

Answer 1

specific identification,fifo,avg cost

Question 2

if a company sells goods that are uneique and distinct form each other

Answer 2

specific identification

Question 3

if a company sells goods that are not unique and specifically identifiable

Answer 3

fifo and avg cost

Question 4

can a company use more than one type of cost formula for its inventory?

Answer 4

yes!! car companies might use speicific dientification for each car but avg cost for inventory parts

Question 5

how does a company pick between fifo or acg cost?

Answer 5

consider 3 things:
1) which cost formula corresponds to the physical flow of goods
2) report inventory cost on SOFP that is close to inventory’s recent cost
3) use same const formula for all inventories of a similar nature/use

Question 6

should companies keep the same cost formula period over period!

Answer 6

yes so the information is comparable

Question 7

how does inventory affect sofp

Answer 7

ending inventory=current asset

Question 8

how does inventory impact soi

Answer 8

cost of goods sold is an expense

Question 9

how does invnetory affect soce

Answer 9

cogs affects gross profit and net income-> affects RE on soce

Question 10

How does fifo impact soi (WHEN INVENTORY IS INCREASING)

Answer 10

-> assume oldest is sold first, lower cost units are assigned to cogs, higher cost units attached to ending inventory
-> LOWER COGS
-> lower COGS= higher income before tax; ner income is higher!!

Question 11

How does avg cost impact soi (WHEN INVENTORY IS INCREASING)

Answer 11

-> cogs under avg cost formula include avg cost of ALL units held prior to sale= HIGHER avg cost per unit sold
->higher cogs= lower income before income tax= lower net income

Question 12

How does FIFO impact sofp (when inventory is increasing)

Answer 12

ending inventory balance that is higher, because includes most recently purchased units (which have higher costs)

-> when inventory costs are rising, FIFO provides highest possible cost for ending inventory, and higher RE becuase balance,

Question 13

How does a rising inventory impact the sofp under avg cost?

Answer 13

ending inventory is lower than it would be under FIFO, because avg cost per unit is lower than te cost of the most recently purchased goods

Question 14

pros of using specific identification

Answer 14

1) actual cogs associated w related revenues is reported on soi
2) tracks actual flow of physical goods
3) ending inventory reported at actual cost

Question 15

pros of using FIFO

Answer 15

1) ending inventory on sofp is based on mosot current costs MORE RELEVANT
2) approximates the physical flow of goods for morst retailers

Question 16

pros of AVG cost formulas

Answer 16

1) cogs on the SOI includes more current costs than FIFO; Relevant to gross profit

2) can approximate the physical flow of goods for some companies

3) smooths the effects of price changes by using weighted moving average

Question 17

if there are rising costs of inventory, how does FIFO impact
1) COGS on SOI
2) gross profit and net income on soi
3) cash on sofp
4) inventory on sofp
5) RE on sofp

Answer 17

lower
higher
same
higher
higher

Question 18

if there are rising costs of inventory, how does avg cost impact
1) COGS on SOI
2) gross profit and net income on soi
3) cash on sofp
4) inventory on sofp
5) RE on sofp

Answer 18

higher
lower
same
lower
lower

Question 19

if there are falling costs of inventory, how does FIFO impact
1) COGS on SOI
2) gross profit and net income on soi
3) cash on sofp
4) inventory on sofp
5) RE on sofp

Answer 19

higher
lower
same
lower
lower

Question 20

if there are lower costs of inventory, how does avg cost impact
1) COGS on SOI
2) gross profit and net income on soi
3) cash on sofp
4) inventory on sofp
5) RE on sofp

Answer 20

lower
higher
same
higher
higher

Question 21

if there are no changes in costs of inventory, how does FIFO impact
1) COGS on SOI
2) gross profit and net income on soi
3) cash on sofp
4) inventory on sofp
5) RE on sofp

Answer 21

same
same
same
same
smae

Question 22

if there are no change in costs of inventory, how does avg cost impact
1) COGS on SOI
2) gross profit and net income on soi
3) cash on sofp
4) inventory on sofp
5) RE on sofp

Answer 22

same
same
same
same
same

Question 23

Note that the same financial statement effects for FIFO and average cost shown above for net income and retained earnings would also flow through to the statement of changes in equity, even though it is not included in the table above. It is also worth remembering that all formulas for determining inventory costs will give exactly the same result over the life cycle of the business or its product. That is, the allocation between the cost of goods sold and ending inventory may vary in any one period, but it will produce the same cumulative results over time.

Answer 23

Note that the same financial statement effects for FIFO and average cost shown above for net income and retained earnings would also flow through to the statement of changes in equity, even though it is not included in the table above. It is also worth remembering that all formulas for determining inventory costs will give exactly the same result over the life cycle of the business or its product. That is, the allocation between the cost of goods sold and ending inventory may vary in any one period, but it will produce the same cumulative results over time.

Question 24

is, the allocation between the cost of goods sold and ending inventory may vary in any one period, but it will produce the same cumulative results over time.

Answer 24

yes

Question 25

ALWAYS WHAT??

Answer 25

DO THE CHECK BY USING COGS + ENDING INVENTORY= COG AVAILABLE FOR SALE FORMULA IN AVG COST AND FIFO CHARTS!!