Chapter 5 - Accounting for Inventories

Question 1

perpetual inventory system

Answer 1

Method of accounting for inventory in which the amount of cost of goods sold is recorded for each sale of inventory; the Inventory account is increased and decreased with each purchase and sale of merchandise.

Question 2

recall

Answer 2

Recall that when goods are sold, product costs flow (are transferred) from the Inventory account to the Cost of Goods Sold account.

Question 3

Which four are acceptable methods for determining the amount of cost to transfer

Answer 3

(1) specific identification; (2) first-in, first-out (FIFO); (3) last-in, first-out (LIFO); and (4) weighted average.

Question 4

specific identification

Answer 4

Suppose The Mountain Bike Company (TMBC) tags inventory items so it can identify which one is sold at the time of sale. TMBC could then charge the actual cost of the specific item sold to cost of goods sold. Recall that the first inventory item TMBC purchased cost $100 and the second item cost $110. Using specific identification, cost of goods sold would be $100 if the first item purchased was sold, or $110 if the second item purchased was sold.

ALSO,

Inventory costing method in which cost of goods sold and ending inventory are computed using the actual costs of the specific goods sold or those on hand at the end of the period.

Question 5

When goods are sold under the perpetual inventory system, the cost of the good sold is transferred from the ______ account.

Answer 5

inventory account to the cost of goods sold

Question 6

The specific identification cost flow method is most likely to be used when the cost per unit of inventory ______.

and sales volume are high

is low and sales volume is high

is high and sales volume is low

and sales volume are low

Answer 6

is high and sales volume is low

Question 7

Hersey Company purchased two identical inventory items. The item purchased first cost $50. The second item cost $55. If one of the items were sold, which cost flow method would produce the lowest amount of cost of goods sold?

Last-in, first-out

First-in, first-out

Weighted average

Answer 7

First-in, first-out

Question 8

First-In, First-Out (FIFO)

Answer 8

The first-in, first-out (FIFO) cost flow method requires that the cost of the items purchased first be assigned to cost of goods sold. Using FIFO, TMBC’s cost of goods sold is $100.

Inventory cost flow method in which cost of goods sold is computed as if the earliest items purchased are the first items sold.

Question 9

Ted’s Sports Center purchased two identical basketballs for resale. One was purchased in June for $30 and the other was purchased in July for $34. If Ted’s uses the last-in, first-out (LIFO) cost flow method and sells one of the balls in August, the amount charged to the Cost of Goods Sold account will be ______.

Zero

$30

$32

$34

Answer 9

$34

Question 10

Ted’s Sports Center purchased two identical basketballs for resale. One was purchased in June for $30 and the other was purchased in July for $34. If Ted’s uses the weighted average (WA) cost flow method and sells one of the balls in August, the amount charged to the Cost of Goods Sold account will be ______.

$30

$34

$32

$0

Answer 10

$32

Reason: $30 +$34= $64
$64 ÷ 2 = $32

Question 11

Weight-Average cost flow method

Answer 11

To use the weighted-average cost flow method, first calculate the average cost per unit by dividing the total cost of the inventory available by the total number of units available. In the case of TMBC, the average cost per unit of the inventory is $105 [($100 + $110) ÷ 2]. Cost of goods sold is then calculated by multiplying the average cost per unit by the number of units sold. Using weighted average, TMBC’s cost of goods sold is $105 ($105 × 1).

Inventory cost flow method in which the cost allocated between inventory and cost of goods sold is based on the weighted average cost per unit, which is determined by dividing the total cost of goods available for sale during the accounting period by the total units available for sale during the period. If the weighted average is recomputed with each successive purchase, the result is a moving average.

Question 12

Which of the following is not an inventory cost flow method?

Last in First Out (LIFO)

Specific Identification

Next in First Out (NIFO)

Weighted Average

First in First Out (FIFO)

Answer 12

Next in First Out (NIFO)

Question 13

True or false: A company may use LIFO or weighted average for financial reporting even if its goods flow physically on a FIFO basis.

True/ False

Answer 13

true

Question 14

Physical flow of goods

Answer 14

The preceding discussion pertains to the flow of costs through the accounting records, not the actual physical flow of goods. Goods usually move physically on a FIFO basis, which means that the first items of merchandise acquired by a company (first-in) are the first items sold to its customers (first-out). The inventory items on hand at the end of the accounting period are typically the last items in (the most recently acquired goods). If companies did not sell their oldest inventory items first, inventories would include dated, less marketable merchandise. Cost flow, however, can differ from physical flow. For example, a company may use LIFO or weighted average for financial reporting even if its goods flow physically on a FIFO basis.

ALSO,

Physical movement of goods through a business, normally on a FIFO basis so that the first goods purchased are the first goods delivered to customers, reducing the likelihood of inventory obsolescence.

Question 15

Inventory item 101 cost $100. Inventory item 102 cost $110. The two inventory items are identical in all respects, except the price paid to acquire them. The business uses the specific identification cost flow method. If item 102 is sold to a customer, the amount assigned to cost of goods sold is ______.

$0

$110

$105

$100

Answer 15

$110

Reason: The specific identification method charges the cost of the specific item sold to cost of goods sold.

Question 16

Fred’s Fans purchased two identical fans for resale. Fan 1 was purchased in April for $76 and Fan 2 was purchased in May for $80. One of the fans was sold in June for $100 and Fred reported a gross margin of $22. Fred is using the ______ inventory method.

last-in, first out

first-in, first out

weighted average

Answer 16

weighted average

Reason: If weighted average is used, the $78 [(80 + 76) ÷ 2] average cost of the last fan purchased is charged to cost of goods sold. ($100 revenue - $78 cost of goods sold = $22 gross margin.)

Question 17

Ted’s Sports Center purchased two identical basketballs for resale. One was purchased in June for $30 and the other was purchased in July for $34. If Ted’s uses the first-in, first-out (FIFO) cost flow method and sells one of the balls in August, the amount charged to the Cost of Goods Sold account will be ______.

$30

Zero

$34

$32

Answer 17

$30

Question 18

Cost of goods available for sale is allocated between ______.
ending inventory and cost of goods sold

beginning inventory and cost of goods sold

beginning inventory and purchases

ending inventory and beginning inventory

Answer 18

ending inventory and cost of goods sold

Question 19

Select all that apply

Hector Company purchased two identical inventory items. The item purchased first cost less the item purchased last. If Hector uses the LIFO cost flow system the cost of goods sold will be ______ is used.

higher than if FIFO

lower than if weighted average

higher than if weighted average

lower than if FIFO

Answer 19

higher than if FIFO

higher than if weighted average

Reason: LIFO would assign the highest cost (the last cost) to cost of goods sold. So cost of good sold under LIFO would be higher than the average cost.

Reason: LIFO would assign the highest (the last cost) to cost of goods sold. In contrast, FIFO would assign the lowest cost (the first cost) to cost of goods sold. So LIFO would be higher than FIFO.

Question 20

Edward Company purchased two identical inventory items. The item purchased first cost $70. The second item cost $76. If one of the items were sold, which cost flow method would produce an amount of cost of goods sold that is between $70 and $76?

Last-in, last-out

First-in, first-out

Weighted Average

Answer 20

Weighted Average

Reason: Weighted average would assign the average cost [($70 + $76) ÷ 2 = $73] to cost of goods sold.

Question 21

True or false: When sales and purchases occur intermittently, the cost of the items purchased is frequently unknown at the time a sale occurs. Even so, companies can still use the perpetual inventory method.

True/ False

Answer 21

True

Reason: Companies can use the perpetual inventory method even if the cost of inventory cannot be determined at the time of the sale. Specifically, records of the quantities sold can be kept at the time sales occur and then the cost data can be applied to the quantity data at the end of the accounting period when the cost of all purchases is know.

Question 22

Which method do companies most often use to physically flow inventory items through a store?

FIFO

LIFO

Weighted Average

Answer 22

FIFO

Reason: A FIFO physical flow delivers the oldest items (those purchased first) to customers, thereby keeping the newest items (those purchased last) in the store. This practice keeps inventory from becoming out of date.

Question 23

The most common method used to apply the lower-of-cost or market rule is by applying it to ______.

the entire stock of inventory in the aggregate

major classes or categories of inventory

each individual inventory item

Answer 23

each individual inventory item

Question 24

Fred’s Fans purchased two identical fans for resale. Fan 1 was purchased in April for $76 and Fan 2 was purchased in May for $80. One of the fans was sold in June for $100 and Fred reported a gross margin of $24. Fred is using the ——–
inventory method.

last-in, first out

weighted average

first-in, first out

Answer 24

first-in, first out

Reason: If FIFO is used, the $76 cost of the first fan purchased is charged to cost of goods sold. ($100 revenue - $76 cost of goods sold = $24 gross margin.)

Question 25

Cost of goods available for sale is the amount of ______.

ending inventory plus all purchase made during an accounting period

beginning inventory plus all purchases made during an accounting period

beginning inventory plus purchases minus ending inventory

beginning inventory plus the cost of goods sold

Answer 25

beginning inventory plus all purchases made during an accounting period

Question 26

A company purchased two identical inventory items. The first was purchased in October for $100 and the second in November for $110. One item was sold to a customer in December for $150. The cost flow method that will result in the highest gross margin is ______.

last-in, first-out (LIFO)

weighted average

first-in, first-out (FIFO)

Answer 26

first-in, first-out (FIFO)

Reason: It does not matter whether Item 1 or Item 2 is sold. Cost flow may differ from physical flow. FIFO assigns the first (lowest) cost to cost of goods sold, thereby producing the highest gross margin.

Question 27

Blane Company maintains its inventory under the perpetual system and uses a LIFO cost flow. The company purchases and sells inventory intermittently throughout its accounting cycle. Based on this information alone, the amount of the cost of goods sold will be determined at the ______.

time a sale is made

beginning of the accounting period

end of the accounting period

Answer 27

end of the accounting period

Reason: When sales and purchases occur intermittently, the cost of the last items purchased is frequently unknown at the time a sale occurs.

Question 28

Select all that apply

If the amount of ending inventory is overstated, the amount of ______.

retained earnings will be overstated

net income will be overstated

retained earnings will be understated

total assets will be overstated

Answer 28

retained earnings will be overstated

Reason: If net income is overstated, retained earnings and stockholders equity are overstated

net income will be overstated

Reason: Cost of goods sold expense would be understated. This would cause net income to be overstated.

total assets will be overstated

Reason: Ending inventory is an asset.

Question 29

Regarding GAAP rules for inventory valuation, the amount a company would have to pay to replace merchandise is the definition of ———

Answer 29

market

Question 30

Sam’s Shirts Inc. is a custom t-shirt company with current period sales of $200,000. Sam’s had $190,000 of t-shirts available for sale and an expected gross margin ratio of 25%. Estimated ending inventory equals ______.

$50,000

$47,000

$10,000

$40,000

Answer 30

$40,000

Reason: $200,000 × 25% = $50,000 estimated gross margin. $200,000 - $50,000 = $150,000 estimated cost of goods sold.
$190,000 - $150,000 = $40,000 estimated ending inventory.

Question 31

Fred’s Fans purchased two identical fans for resale. Fan 1 was purchased in April for $76 and Fan 2 was purchased in May for $80. One of the fans was sold in June for $100 and Fred reported a gross margin of $22. Fred is using the ______ inventory method.

weighted average

first-in, first out

last-in, first out

Answer 31

weighted average

Reason: If weighted average is used, the $78 [(80 + 76) ÷ 2] average cost of the last fan purchased is charged to cost of goods sold. ($100 revenue - $78 cost of goods sold = $22 gross margin.)

Question 32

If a company has current assets of $900,000, average inventory of $460,000, total assets of $5,400,000, sales of $6,000,000, and cost of goods sold of $4,600,000, what is its inventory turnover ratio?

2. 0
3. 0
4. 0
5. 0

Answer 32

10.0

Reason: Inventory turnover = Cost of goods sold/average inventory Inventory turnover= $4,600,000/$460,000= 10.0

Question 33

Cost of goods available for sale is allocated between ______.

ending inventory and beginning inventory

beginning inventory and purchases

ending inventory and cost of goods sold

beginning inventory and cost of goods sold

Answer 33

ending inventory and cost of goods sold

Question 34

A company purchased two identical inventory items. The first was purchased in October for $100 and the second in November for $110. One item was sold to a customer in December for $150. The cost flow method that will result in the lowest gross margin is ______.

weighted average

last-in, first-out (LIFO)

first-in, first-out (FIFO)

Answer 34

last-in, first-out (LIFO)

Reason: It does not matter whether Item 1 or Item 2 is sold. Cost flow may differ from the physical flow. LIFO assigns the last (highest cost) to cost of goods sold, thereby producing the lowest gross margin.

Question 35

A company purchased two identical inventory items. The first was purchased in October for $100 and the second in November for $110. One item was sold to a customer in December for $150. The cost flow method that will result in the lowest gross margin is ______.

weighted average

last-in, first-out (LIFO)

first-in, first-out (FIFO)

Answer 35

last-in, first-out (LIFO)

Reason: It does not matter whether Item 1 or Item 2 is sold. Cost flow may differ from the physical flow. LIFO assigns the last (highest cost) to cost of goods sold, thereby producing the lowest gross margin.

Question 36

Assume three companies in the same industry have the following inventory turnover ratios: Newton Co. = 6.3 Olsen Co. = 4.7 Pruitt Co. = 8.2Based on this information alone, which company appears to be doing the best job managing inventory?

Pruitt

Newton

Olsen

Answer 36

Pruitt

Reason: This company has the faster turnover. It’s inventory sells the fastest..

Question 37

If the amount of ending inventory is overstated, the amount of ______.

cash flow from operating activities will be overstated

net income will be understated

cost of goods sold will be understated

liabilities will be overstated

Answer 37

cost of goods sold will be understated

Reason: Cost of goods available for sale is allocated between cost of goods sold and ending inventory. If the amount in ending inventory is overstated, then the amount in cost of goods sold has to be understated.

Question 38

The expected gross margin ratio is calculated as the average gross margin for the period divided by the average ——–
for the same period.

Answer 38

sales

Question 39

If a company has total assets of $7,500,000, average inventory of $720,000, current assets of $1,200,000, sales of $12,000,000, cost of goods sold of $8,800,000, and net income of $480,000 what is its inventory turnover ratio?

1. 7
2. 5
3. 2
4. 7

Answer 39

12.2

Question 40

Benson Company had beginning inventory of 150 units that cost $200 each. During the year Benson made two inventory purchases. Purchase 1 was for 500 units at a cost of $210 each and Purchase 2 was for 350 units at a cost of $220 each. Benson’s cost of goods available for sale for the year is ______.

$212,000

$77,000

$30,000

$182,000

Answer 40

$212,000

Reason: Beginning inventory (150 units x $200 each) + Purchase 1 (500 units x $210 each) + Purchase 2 (350 units x $220).

Question 41

When comparing two companies that both sell clothing, it is likely that the company that has the higher gross margin ratio will ______ average number of days to sell inventory.

have an equal or lower

also have a higher

Answer 41

also have a higher

Question 42

Assume three companies in the same industry have the following average days to sell inventory: Quest Co. = 87 days Rand Co. = 103 days Smith Co. = 96 daysBased on this information alone, which company appears to be doing the worst job of managing inventory?

Quest

Rand

Smith

Answer 42

Rand

Reason: It’s days to sell are longer.

Question 43

The gross margin method assumes that the percentage of gross margin to sales ______ over time.

remains relatively stable

changes in both directions

decreases steadily

increases steadily

Answer 43

remains relatively stable

Question 44

The inventory turnover ratio equals ______.

Average Inventory divided by Net Sales Revenue

Net Sales Revenue divided by Average Inventory

Inventory divided by Cost of Goods Sold

Cost of Goods Sold divided by Average Inventory

Answer 44

Cost of Goods Sold divided by Average Inventory

Question 45

Companies operating in which of the following industries are most likely to have the highest inventory turnover ratios?

Department Stores

Fast Food Restaurants

Shipbuilding

Home Construction

Answer 45

Fast Food Restaurants

Reason: Food must be sold rapidly to avoid spoilage. Therefore, it is logical to assume that food inventory will turnover more rapidly than products sold in industries such as shipbuilding, home construction, department stores.

Question 46

Other things being equal, a company would prefer that its average days to sell inventory be ______.

stable

high

low

Answer 46

low

Question 47

Your most challenging concepts

Answer 47

Define cost of goods available for sale.

Show how different inventory cost flow methods affect gross margin.

Assess a company’s inventory ratios