Inventories Flashcards
Explain costs included in Inventory
Costs included in inventory on the balance sheet include purchase cost, conversion costs, and other costs necessary to bring the inventory to its present location and condition. All of these costs for inventory acquired or produced in the current period are added to beginning inventory value and then allocated either to cost of goods sold for the period or to ending inventory.
Period costs, such as abnormal waste, most storage costs, administrative costs, and selling costs, are expensed as incurred.
Explain the impact of using LIFO or FIFO on COGS and Inventory in an Inflationary / Deflationary environment
When purchase or production costs are rising, LIFO cost of sales is higher than FIFO cost of sales, and LIFO gross profit is lower than FIFO gross profit as a result. LIFO inventory is lower than FIFO inventory.
When purchase or production costs are falling, LIFO cost of sales is lower than FIFO cost of sales, and LIFO gross profit is higher than FIFO gross profit as a result. LIFO inventory is higher than FIFO inventory.
Explain effect of LIFO vs FIFO on B/S Items
When prices are increasing
LIFO results in:
higher COGS
lower gross profit
lower inventory balances
higher inventory turnover
FIFO results in:
lower COGS
higher gross profit
higher inventory balances
lower inventory turnover
When prices are decreasing, it is the inverse
What is a LIFO reserve? (when will it be positive or negative?)
What is a LIFO liquidation?
the difference between LIFO inventory reported and inventory had the firm used the FIFO method. LIFO reserve will be positive during periods of rising inventory costs and negative during periods of falling inventory costs.
A LIFO liquidation occurs when a firm using LIFO sells more inventory during a period than it produces. During periods of rising prices, this drawdown in inventory reduces cost of goods sold because the lower cost of previously produced inventory is used, resulting in an unsustainable increase in gross profit margin.
What is LIFO better for?
What is a caveat of LIFO?
Tax. Taxable income is calculated after cost.
Lower earnings to shareholders
Convert LIFO to FIFO
Balance Sheet
Inventory FIFO: Inv LIFO + LIFO Reserve
Cash FIFO: CASH LIFO - (LIFO reserve x tax rate)
Equity FIFO: Equity LIFO + [LIFO Reserve x (1-T)]
I/S
COGS FIFO: COGS LIFO - Change in LIFO Reserve
Tax FIFO: Tax LIFO + [Change in LIFO Reserve x Tax rate]
NI FIFO: NI LIFO + [Change in LIFO Reserve x (1 - Tax rate)]
Explain inventory Valuation for IFRS and US GAAP
IFRS
Lower of cost or NRV
US GAAP
FIFO
Lower of cost or NRV
LIFO
Lower of cost or market
Market is usually equal to replacement cost but cannot exceed net realizable value or be less than net realizable value minus a normal profit margin. No subsequent write-up is allowed for any company reporting under U.S. GAAP.
Explain the impact of a write down of inventory value from cost to net realizable value will:
Decrease inventory, assets, and equity.
Increase asset turnover, the debt-to-equity ratio, and the debt-to-assets ratio.
Result in a loss on the income statement, which will decrease net income and the net profit margin, as well as ROA and ROE for a typical firm.
What are the Required inventory disclosures?
The cost flow method (LIFO, FIFO, etc.) used.
Total carrying value of inventory and carrying value by classification (raw materials, work-in-process, and finished goods) if appropriate.
Carrying value of inventories reported at fair value less selling costs.
The cost of inventory recognized as an expense (COGS) during the period.
Amount of inventory write-downs during the period.
Reversals of inventory write-downs during the period (IFRS only because U.S. GAAP does not allow reversals).
Carrying value of inventories pledged as collateral.
Calculate COGS
Beginning Inventory + Purchases - Ending Inventory
