Ch 8 Flashcards
Merchandise concern
Retailer purchases merchandise in form ready for sale
Ex Walmart
Inventories
Assets company holds for sale
Or goods consumed in production of goods to be sold
Merchandise inventory
Unsold units left in a retail store
Only inventory account that appears in financial statements
Manufacturing concerns
Produce goods to sell to merchandising firms
Have 3 inventory accounts: raw materials, work in process,
Finished good
Raw materials inventory
Cost assigned to goods and materials on hand but
Not yet placed in production
Materials can be traced directly to end product
Work in process inventory
Partially processed units
Costs included in WIP are: cost of raw materials,
direct labor cost and manufacturing overhead
Finished goods inventory
Costs of completed and unsold units on hand
Supplies inventory
Includes materials in production but aren’t primary materials
Being processed
Perpetual inventory system
Continuously tracks changes in inventory acct.
Company records all purchases and sales directly
In inventory account as they occur
4 accounting features of perpetual inventory system?
1 purchases of merchandise for resale or raw materials
For production are dr. to inventory
2 freight in dr. to inventory
Purchase returns and allowances, purchase discounts cr.
To inventory
3 Cogs recorded at time of sale dr. COGS + cr. inventory
4 subsidiary ledger records quantity + cost of each
Inventory on hand
Periodic inventory system
Company determines quantity of inventory on hand
periodically
Records all acquisitions of inventory during accounting
Period by dr. Purchase acct.
Modified perpetual inventory system
Provides detailed inventory records of increases and
Decreases in quantities only (not $ amts)
Helps determine inventory level at any point in time
All companies need periodic verification of inventory which records by…
Actual, count, weight, measurement and compares
Results to detailed inventory records
Cost of goods available for sale or use, equation?
Cost of goods available for sail or use =
Cost of goods on hand beginning of period
+ Cost of goods acquired or produced during period
Cost of goods sold, equation?
Cost of goods sold =
Cost of goods available for sale
- cost of goods on hand at end of period
3 requirements for valuing inventory?
1 physical goods to include in inventory
2 costs to include in inventory
3 cost flow assumption to adopt
Physical goods to include in inventory, examples?
Who owns the goods?
Goods in transit
Consigned goods
Special sales agreements
Costs. To include in inventory
Product vs period costs
Cost flow assumption to adopt
Specific identification, average cost, FIFO, LIFO, retail etc.
FOB shipping point
Title passes to customer when supplier delivers goods
To the common carrier
FOB Destination
Title passes to customer only when receiving goods
From common carrier
Consignment shipment, consigned good? Consignee, Consignor ?
Consignor ships product (consigned good) to consignee
Consignee acts as agent in selling consigned goods
Consignee sells goods w/out liability except exercise due
Care and reasonable protection from loss or damage til sale
What does a consignee do after it sells a consigned product?
Remits the revenue to the Consignor less the commission
And expenses incurred in accomplishing the sale
Goods out on consignment remain the property of the…
Consignor
Sales with buy back agreement: product financing arrangement
Enterprise finances it’s inventory w/out reporting either
The liability or inventory on its balance sheet
“sale” w/ explicit or implicit “buy back” agreement
Sales with buy back agreement: parking transactions
A Company parks inventory on another B company’s
Balance sheet for a short period of time
A Company should report inventory and related liability on
It’s books
Sales with high rates of return
Sales should not be recorded until its determined
How much will be returned
Example, returns to publishing company of college text books
How do companies generally account for acquisition of inventories?
Like other assets, on a cost basis
Product costs, how are they recorded?
Costs that attach to the inventory
Product costs recorded in inventory account
Period costs
Indirectly related to acquisition or production of goods
Not included as part of inventory costs
Use of purchase discounts in a periodic inventory system indicates that the company is…
Reporting its purchases and accounts payable at
The gross amount
Gross method
Reports purchase discounts as a deduction from
Purchases on the income statement
Interest costs
Period cost associated for getting inventories ready for sale
Net of the cash discounts
Company records failure to take purchase in discount period
In Purchase Discounts Lost account
Considers purchase discounts lost as financial expense
And reports in “other expenses and losses” section on
Income statement
2 reasons net of cash discounts method is considered better?
1 provides correct reporting of cost of asset related
to liability
2 measures management efficiency by holding
Management responsible for discounts not taken
There is no requirement that the cost flow assumption adopted be..
Consistent with physical movement of goods
Specific identification
Identifying each item sold and each item in inventory
Cost flow matches physical flow of goods under
Specific identification
Average cost method
Prices items in inventory on basis of average cost
Of all similar items available during period
Moving average method
New average unit cost is computed when each
new purchase Is made
FIFO Method
Assumes company uses goods in order of in which
It purchases them
In all cases where FIFO is used, the inventory and
Cost of goods sold would…
Be the same at end of the month
Whether a perpetual or periodic system is used
LIFO
Matches cost of last goods purchased against revenue
LIFO Reserve
Difference btw inventory method used for
internal reporting purposes And LIFO
Called “Allowance to reduce inventory to LIFO ACCT”
LIFO Effect
Change in allowance balance from one period to next
2 disadvantages to specific goods costing approach of LIFO?
1 company with many different inventory items has
Expensive accounting costs to track them
2 LIFO Liquidation
LIFO Liquidation, 2 effects it has?
Erosion of LIFO inventory
Distorts net income + leads to substantial tax payments
Specific goods pooled LIFO approach?
How does it compare to specific goods LIFO approach?
Groups similar inventory products
Results in fewer LIFO liquidations compared to
Specific goods LIFO approach
The dollar value LIFO method determines and measures any…
Increases and decreased in pool in dollar value
No measure of physical quantity of goods in inventory
Pool
What do companies use to measure inflation for LIFO purposes?
Consumer price index for urban consumers
Price index for current year, equation? What is another name for this method?
Price index for current year =
(ending inventory for period at current cost)/
(ending inventory for period at base year cost)
The double extension method
What LIFO system do most companies use?
Dollar value LIFO
3 major advantages of LIFO?
1 matching
2 tax benefits/improved cash flow
3 future earnings hedge
LIFO conformity rule
If company uses LIFO for tax purposes, it must also
Use LIFO for financial accounting purposes
4 major disadvantages of LIFO?
1 reduced earnings
2 inventory understated
3 physical flow
4 involuntary liquidation/poor buying habits
2 circumstances that lead to the preferability of selecting LIFO?
1 Selling prices and revenues have increased faster
than costs, this distorting income
2 situations where LIFO is traditionally used like
Department stores and industries with constant base stock
(refining, chemicals, glass)
LIFO Is inappropriate in following 3 circumstances?
1 prices lag behind costs
2 specific identification is traditional (art, jewelry, cars)
3 where unit costs decrease as production increases
Eliminating tax benefits of LIFO
