FAR Module 10 Flashcards
T/F
Inventory is a current asset
True
What ASC topic # covers inventory
330
T/F
Because inventory is overturned so much, it is considered a monetary asset
FALSE
Inventory is a non monetary asset
Define Inventory
Inventory is tangible personal property that is
1) held for sale in the ordinary course of business
2) any process of production for such sale
3) to be used currently in the production of items for sale
The primary basis of accounting for inventories is….
Cost (the cash or FV of consideration given in exchange for it)
Inventory cost is a function of what two variables?
1) the number of units included in inventory
2) The costs attached to those units
How is ownership usually determined in regards to inventory
By legal title
What costs should be included in inventory for a non manufacturing entity?
All costs necessary to prepare the goods for sale
Normal costs for:
1) freight in
2) handling costs
3) normal spoilage
What costs should be included in inventory for a manufacturing entity?
Normal costs for:
1) direct materials
2) direct labor
3) direct and indirect factory overhead
What entry do you make under the gross method when you purchase inventory on account?
Debit purchases
Credit a/p
What entry do you make under the gross method when you take advantage of the discount opportunity?
Debit a/p
Credit purchase discount
Credit cash
What entry do you make under the gross method when you do not take advantage of the discount opportunity?
Debit a/p
Credit cash
What entry do you make under the net method when you purchase inventory on account?
Debit purchases
Credit a/p
(The number amount is net of the discount. You assume upfront that you will take the discount)
What entry do you make under the net method when you take advantage of the discount opportunity?
Debit a/p
Credit cash
(Because you already set up the entry assuming you would take advantage of the discount there is no need to credit a purchase discount account)
What entry do you make under the net method when you do not take advantage of the discount opportunity?
Debit a/p
Debit purchase discount loss
Credit cash
Purchase Discounts Not Taken is considered what type of account?
This is a purchase discounts lost account, or a financial other expense. It is not part of the inventory account
These discounts are allowed to the entity because of it being a wholesaler, a good customer, or merely the fact that the item is on sale at a reduced price
Trade discounts
When there are multiple trade discounts, how are they accounted for?
In steps, using the largest trade discounts first (multiply sale amount by 50% and then multiply that result by 40% & so on)
T/F
Interest paid to vendors is included in the cost of inventory
FALSE
Under US GAAP interest paid to vendors is not included in the cost of inventory
What are the two systems used to record inventory
Periodic
Perpetual
Under this system inventory is counted every now and then, and then priced. The ending inventory is usually recorded in the cost of goods sold entry
Periodic system
Under this system a running total is kept of the units on hand, and possibly their value, by recording all increases and decreases as they occur.
The perpetual system
COGS formula
Beginning inventory \+ cost of goods purchased = cost of goods available-for-sale - ending inventory = cost of goods sold
COG Purchased formula
Gross purchases - purchase discounts - purchase returns and allowances = net purchases \+ freight-in/transportation-in = COG purchased
T/F
Regardless of the method used, either gross method or net method, purchases are always recorded net of any allowable trade discount.
TRUE
Why must inventory be physically counted under the perpetual system at the end of the quarter or fiscal year?
Under the periodic system inventory is counted to calculate cost of goods sold.
Under the perpetual system inventory has been counted as a running total and therefore that running total can be used to calculate cost of goods sold. However, under the perpetual system inventory must still be physically counted to calculate shrinkage.
This term describes the loss of inventory due to theft, spoilage, or breakage
Shrinkage
under what system must ending inventory be physically counted to be able to calculate COGS
The periodic system
Under this inventory valuation method the seller can determine which item was sold because individual inventory lots purchased or manufactured are separately identified. When items are sold or otherwise disposed of, the actual cost of the specific item is assigned to the transaction and the ending inventory consists of the actual cost of the specific item on hand. This is usually used for high-cost items, which are individually identifiable (automobiles, appliances, jewelry, etc.)
Specific identification
T/F
The average cost flow assumption can be used under both the periodic and perpetual systems
TRUE
Under the periodic system it is known as “weighted average”. Under the perpetual system it is known as “moving average”
How do you calculate ending inventory under weighted average (periodic)
1) Take units purchased & multiply by cost per unit. Do this for all purchases
2) Total units & total costs
3) Divide total costs by total units to find cost/unit
4) Multiply ending inventory (purchases - sales) by cost/unit
How do you calculate ending inventory under FIFO (periodic)
FIFO means the first units in were sold first. Therefore the ending inventory will consist of the newest or last purchased inventory.
1) figure out ending inventory (purchases - sales)
2) take the ending inventory units out of the most recent (last) purchase lines
3) multiply those units by their corresponding unit cost (the purchase price)
4) total the costs
How do you calculate ending inventory under LIFO (periodic)
LIFO means the last units in were sold first. Therefore the ending inventory will consist of the oldest or first purchased inventory.
1) figure out ending inventory (purchases - sales)
2) take the ending inventory units out of the oldest (first) purchase lines
3) multiply those units by their corresponding unit cost (the purchase price)
4) total the costs
In a market of rising prices, your ending inventory will be higher under which method between FIFO & LIFO?
FIFO
As prices raise higher your later purchases have a higher inventory balance. If using FIFO your cheaper, earlier inventory goes out first and your later, more expensive inventory remains in your ending inventory. LIFO is the opposite; your later, more expensive inventory goes out first leaving your cheaper, earlier inventory in your ending inventory balance
Between FIFO & LIFO, which has an income statement focus & why?
LIFO
Better matching of expenses to revenues (COGS is comprised of current costs) and more conservative approach
Between FIFO & LIFO, which has a balance sheet focus & why?
FIFO
The most recently purchased inventory is on the inventory account. It is the most recent, most accurate picture of the inventory account
T/F
Under the perpetual system of inventory timing of purchases and sales does not matter
FALSE
timing does not matter under the periodic system. Under the perpetual system timing matters a lot!
How is calculating FIFO under the perpetual system different from calculating FIFO under the periodic system
There is no difference
How is calculating LIFO under the perpetual system different from calculating LIFO under the periodic system
Under the perpetual system you cannot simply net purchases against sales and calculate ending inventory at the end. You must recalculate the balance at the time of sales and then continue on with purchases until the end of the period when you can calculate final numbers.
How do you calculate ending inventory under moving average (perpetual)?
At the time of each sale you must recalculate the average cost by dividing total cost by total units.
At the end you multiply the ending units by the most recent average cost.
In the phrase “Lower of Cost or Market” what does “cost” mean?
Cost is the ending inventory amount based on the valuation method (FIFO, LIFO, or weighted/moving average)
Why is LCM used?
More conservative approach
When determining market, what is the replacement cost limited to?
Ceiling, which is Net Realizable Value (price - selling costs & costs to complete sale)
Floor, which is NRV - Normal Profit
If replacement cost is greater than the ceiling or less than the floor what does “market” equal?
Market will equal the ceiling (if replacement cost is greater than the ceiling) or the floor (if replacement cost is less than the floor)
T/F
The floor limitation on market prevents recognition of more than normal profit in future periods if market is less than cost
Likewise, the ceiling limitation on market prevents recognition of a loss in future periods if market is less than cost
TRUE
T/F
Cost or market applied to individual items will always be as low as, and usually lower than, cost or market applied to the inventory as a whole. It will be the same when all items at market or all items at costs are lower.
TRUE
T/F
Once inventory has been written down there can be recovery from the write down before the units are sold.
FALSE
Once inventory has been written down there can be no recovery from the write down until the units are sold.
Methods of recording write-down:
1) the entry to establish ending inventory can be made using the market figure. This includes the loss in COGS, overstating COGS. The loss is not separately disclosed
2) Debit the inventory account for the actual cost (not market) of goods on hand & then make the following entry to recognize the market decline:
Loss due to market decline
Inventory
This results from legally enforceable contracts to purchase specific quantities of goods at fixed prices in the future.
Purchase commitments
How does a loss on purchased commitments occur
When there is a decline in market value below the contract price at the balance sheet date and the contracts are noncancelable, an unrealized loss has occurred and, if material, should be recorded in the period of decline
What is the entry to show a loss on purchased commitments
Debit estimated loss on purchase commitments
Credit accrued loss on purchased commitments
T/F
The loss on purchase commitments can change (increase or decrease) until the inventory is received and these changes should be continually updated in journal entries
TRUE
A loss on purchase commitments will be posted on the …. And the accrued loss will be shown on the ….
Income statement
Balance sheet
Accrued Loss on purchase commitments is what kind of account?
A liability account
Which cost flow assumption usually does not parallel the physical flow of goods
LIFO
T/F
In periods of rising prices LIFO increases tax liability due to a higher reported income (resulting from lower cost of goods sold)
FALSE
In periods of rising prices LIFO reduces tax liability due to the lower reported income (resulting from the higher cost of goods sold)
T/F
LIFO smooths fluctuations in the income stream relative to FIFO because it matches current costs with current revenues
TRUE
What is the LIFO conformity rule
If LIFO is used for tax purposes it must also be used for financial reporting purposes
What is the purpose of the LIFO reserve account
When a company uses LIFO for external reporting purposes and another inventory method for internal purposes, a LIFO reserve account is used to reduce inventory from the internal valuation to the LIFO valuation.
What type of account is the LIFO reserve account?
A contra account to inventory
When an entry is made to debit/credit the LIFO reserve account, what account is on the other side of that entry?
COGS
What is dollar value LIFO
Dollar value LIFO is LIFO applied to pools of inventory items rather than to individual items.
What are the benefits to using dollar value LIFO
The cost of keeping inventory records is less
Involuntary liquidation of LIFO layers is less likely to occur
What is the formula for the conversion price index in regards to dollar value LIFO
EI at end of year prices / EI at base year prices
What are the 4 Steps to doing a Dollar Value LIFO problem?
1) divide nominal year (current costs) EI by conversion price index to get EI at base year prices
2) look at change in each result to find base year layers (how much has EI gone up/down since year 1 under the base year column?)
3) convert base year layers (increase/decreases) to nominal prices by multiplying them by conversion price index
4) add them all up
Under this method ending inventory is estimated by using the gross profit percentage to convert sales to cost of goods presumed sold
Gross profit method
T/F
The gross profit method is acceptable for either tax or annual financial reporting purposes
FALSE
Since ending inventory is only estimated, the gross profit method is not acceptable for either tax or annual financial reporting purposes
What is the gross profit method useful for since it is not acceptable for tax or annual financial reporting purposes
To estimate ending inventory for internal use, for use in interim financial statements, and for establishing the amount of loss due to the destruction of inventory by fire, flood, or other catastrophes
Formula for gross profit
Net sales - COGS = gross margin/gross profit
If the situation is FOB shipping point and the goods are in transit, whose inventory should include the goods?
The buyer, because title passes to the buyer when the carrier receives the goods
If the situation is FOB destination point and the goods are in transit, whose inventory should include the goods?
The seller. Until the goods are received by the buyer, the title does not pass. Title passes to the buyer when the goods are received at their final destination
Under FOB destination point, who bears the costs of transporting the goods?
The seller bears all costs of transporting goods to the buyer under FOB Destination. Thus includes packaging, shipping, insurance, and handling costs
In an consignment relationship, the consigned goods are the property of who?
The consigned goods remain the property of the consignor until sold
Under FOB shipping point, who bears the costs of transporting the goods?
The buyer bears all costs of transporting goods to the buyer under FOB Shipping. This includes packaging, shipping, insurance, and handling costs
What are the sales agents of consignors called
Consignees
T/F
A proportionate share of freight costs incurred in shipping goods to a consignee are not included in the consignors inventory
FALSE
A proportionate share of freight costs incurred in shipping goods to a consignee ARE included in the consignors inventory
When should consignment sales revenue be recognized and by whom?
Consignment sales revenue should be recognized by the consignor when the consignee sells the consignment goods to the ultimate customer. No revenue is recognized at the time the consignor ships the goods to the consignee.
T/F
The percentage of sales that the consignor must pay to the consignee as commission will be netted against the sales revenue recognized by the consignor
FALSE
sales commission made by the consignee will be recorded as a selling expense by the consignor and will not be netted against the sales revenue recognized by the consignor
Formula for Inventory turnover ratio
COGS/Avg Inventory
Formula for Number of Days Supply in Avg Inventory
365/Inventory Turnover
This formula measures the number of times inventory was sold and reflects inventory order and investment policies
The inventory turnover
This formula measures the number of days inventory is held before sale. It reflects on the efficiency of inventory policies
The number of days supply in average inventory
Under the completed contract method, when/how do you recognize income
Only when the contract is complete do you recognize income in its entirety
Under the percentage of completion method, when/how do you recognize income
1) total costs incurred to date/total estimated costs to complete
2) calculate Gross Profit (contract price - total estimated costs to complete)
3) multiply 1 * 2
4) 3 is your profit. Subtract the previous years profit recognized to avoid duplicating recognized profit
What is the journal entry to recognize costs of construction?
Under this situation you are the construction company and you spent money on the construction project. This is to recognize the money you spent.
Debit construction in progress inventory (for the costs incurred each year - the actual cost to date)
Credit cash or payables
What is the journal entry to recognize progress billings in construction?
Under this situation you are the construction company and you spent money on the construction project. This is to recognize the bill you wrote to your client.
Debit A/R
Credit Billings on Contracts
In accounting for a long-term construction contract using the percentage of completion method, the progress billings on contract account is what kind of account
A Contra current asset account
“Billings on contracts” is what type of account?
Contra account to Construction in Progress
What is the journal entry to recognize collections on billings in construction?
Under this situation you are the construction company and you spent money on the construction project. This is to recognize the payment of the bill you wrote to your client.
Debit cash
Credit A/R
What happens to the income on construction account?
It is eventually closed to the income summary account
T/F
when using the two methods (completed contract method versus percentage of completion method) you may recognize different amounts of income at the end of a contract
FALSE
the timing of recognition is the difference between the two methods. The amount of income is the same no matter what method is used
To close the accumulated account balances and recognize income at the end of a construction contract, what entry is done
For both methods you:
Debit Billings on Contract (to close out all billings)
Debit CIP Inv. (to recognize revenue)
Credit Construction in Process Inventory (to close out the inventory)
Credit Income on Construction (to recognize revenue)
The amounts will differ but the accounts used will be the same
T/F
anytime the construction in process inventory is larger than the billings on contract, this is considered to be an asset
FALSE
it is a liability
T/F
For both the percentage of completion and completed contract method, when you suspect that there may be a loss you must immediately recognize that loss in full even if it has not yet occurred or if only part of the loss occurred
TRUE
This follows conservatism
What is the journal entry to recognize income in construction?
Under the completed contract method there is no entry until the very end.
Under the percentage of completion method you:
Debit Construction in process inventory
Credit income on construction
With IFRS what cost flow assumption is not allowed?
LIFO
Under IFRS, what replaces LCM?
IFRS uses LCNRV. Therefore there is no ceiling or floor; this method is simpler.
Under IFRS what is the exception to the LCNRV rule? How is the exception treated?
Agricultural/biological inventories, which are carried at FV less costs to sell at harvest point
How is NRV calculated under IFRS?
Estimated selling prices - estimated costs of completion & sale (basically the same as US GAAP)
Under US GAAP there is no capitalization of interest for inventories allowed. How is this different under IFRS?
Under IFRS interest costs can be capitalized if there is a lengthy production period to prepare the goods for sale
Per the codification, what is considered a normal capacity of production facilities
Normal capacity refers to a range in production levels that will vary based on business and industry specific factors
How should unallocated fixed overhead costs be treated
They should be recognized as an expense in the period in which they occurred
When manufacturing inventory what is the accounting treatment for abnormal costs
Any abnormal costs for freight, handling costs, and wasted material are required to be treated as current period charges and not a part of inventory cost
Which inventory costing method approximates most closely the current cost for cost of goods sold
LIFO
Which inventory costing method approximates most closely the current cost for ending inventory
FIFO
Under IFRS, the specific identification method of accounting for inventory is required for what
Inventory items that are not interchangeable and goods that are produced and segregated for specific purposes/projects
What are the only two accounts that are debited to the Construction in Progress Account & how is this helpful?
Construction expense and profit are the only two accounts debited to the construction in progress account.
This is helpful because if not enough information is given in a problem to perform the regular computation of recognizing profit, profit can be computed indirectly by subtracting expenses from ending balances
