Inventories Flashcards
Under US GAAP and during periods of inflation, perpetual inventory system and periodic inventory system will result in the same dollar amount of ending inventory under what inventory valuation method?
FIFO
What type of expense is “freight-out”?
Selling expense
What type of expense is “freight-in”?
Capitalized as part of inventory
What inventory valuation method requires estimates of price-level changes for specific inventories?
Dollar-value LIFO
When applying lower of cost or market to total inventory, groups of similar items, or each item, which generally results in the lowest inventory amount?
Applying to each item separately
LIFO reserve
The difference between inventory on the LIFO method versus any other cost method
Dollar-value LIFO ending inventory
Dollar value base layer plus the current year base layer times the conversion factor
Four types of inventories held for resale
- Retail inventory
- Raw materials inventory
- Works in process inventory
- Finished goods inventory
Retail inventory
Finished goods only
Re-sold in substantially the same form in which it was purchased
Raw materials inventory
Inventory being held for use in production process
WIP inventory
Inventory that is in production but incomplete
Finished goods inventory
Production inventory that is complete and ready for sale
General rule for goods and materials in which company has legal title
Should be included in inventory
Title passing for goods in transit
Title passes from seller to buyer in the manner and under the conditions explicitly agreed upon by parties
What if no conditions are explicitly agreed upon ahead of time for goods in transit?
Title passes from seller to buyer at the time and place where the seller’s performance regarding delivery of goods is complete
F.O.B
“free on board”
FOB shipping point
Buyer’s inventory (buyer pays)
Title passes to the buyer when the seller delivers the goods to common carrier
“Freight in” added to cost of inventory
FOB destination
Seller’s inventory (seller pays)
Title passes to the buyer when the buyer receives the goods from the common carrier
What happens if the seller ships the wrong goods (shipment of nonconforming goods)?
The title reverts to the seller upon rejection by the buyer (seller’s inventory)
What happens if goods are sold but the buyer has the right to return the goods?
GR. The goods should be included in the seller’s inventory if the amount of goods likely to be returned cannot be estimated (no sale yet)
What if the buyer has the right to return but amount of goods likely to be returned can be reasonably estimated?
Transaction will be recorded as sale w/an allowance for estimated returns recroded
What conditions must be met for revenue from a sales transaction where buyer has right to return to be recognized at the time of sale?
- Sales price substantially fixed at date of sale
- Buyer assumes all risk of loss b/c goods are in buyer’s possession
- Buyer has paid some form of consideration
- Product sold is substantially complete
- Amount of future returns can be reasonably estimated
Consignment arrangement
Seller (consignor) delivers goods to an agent (consignee) to hold and sell on the consignor’s behalf
Seller = true owners and inventory costs include shipping cost to sonsigned
Who has title of inventory in public warehouses
The company holding the warehouse receipt (warehouse receipt evidences title even though owner does not have physical possession)
Who includes inventory in sales with a mandatory buyback in their FS?
The seller (even though title has passed to buyer)
Who includes the inventory in their FS if goods are sold on an installment basis and the seller still retains legal title as security for the loan?
Included in seller’s inventory if percentage of uncollectible debts cannot be estimated
If can be estimated, transaction accounted for as a sale and allowance recorded
Under US GAAP, what should inventory be stated at?
At cost (if evidence indicates cost will be recovered with an approximately normal profit on sale)
Cost
Price paid or consideration given to acquire an asset
What method are used to determine the cost of inventory
FIFO
LIFO
Average cost
Retail inventory method
When would there be a departure from the cost basis principle of measuring inventory?
SP < Cost
When the utility of goods is no longer as great as their cost
Lower of cost or market OR Lower of cost or net realizable value
What is the purpose of reducing inventory to lower of cost or market/NRV?
To show the probable loss sustained (conservatism) in the period in which the loss occurred (matching principle)
ASU 2015-11, Simplifying the Measurement of Inventory
All inventory that is not costed using LIFO or the retail inventory method should be measured at the lower of cost and NRV
Inventory costed using LIFO or the retail inventory method should be measured at the lower of cost or market
Under IFRS, how is inventory measured?
Lower of cost or NRV
What are gold, silver and other precious metals, and meats and some ag. products valued at?
Net realizable value (selling price - costs of disposal)
Under US GAAP, where are write-downs of inventory usually reflected?
COGS, unless the amount is material, in which case the loss should be identified separately in the IS (unusual/infrequent non-operating)
Under IFRS, how much is reversal of inventory write-downs permitted?
Limited to the amount of the original write-down
When would LCM and LCNRV not apply?
When:
- Subsequent sales price of an end product is not affected by its mkt value; or
- Company has a firm sales price contract
What can the LCM and LCNRV principles be applied to?
Single item, a category, or total inventory
Under US GAAP, what doe “market” mean?
Current replacement cost provided it does not exceed NRV (market ceiling) or fall below NRV reduced by normal profit margin (market floor)
Market value (LCM)
The median (middle value) of an inventory item’s replacement cost, its market ceiling, and its market floor
Replacement cost
Cost to purchase the item of inventory as of the valuation date
Market ceiling
Net selling price less cost to complete and dispose (NRV)
Market floor
Market celing (NRV) less a normal profit margin
Steps in finding LCM
- Calculate market ceiling (NRV)
- Calculate market floor (NRV - normal profit margin)
- Find middle value
J/E to write-down inventory to separate account
Dr. Inventory loss due to decline in market value
Cr. Inventory
How are losses that are both substantial and unusual from the application of LCM principle disclosed?
In income from continuing operations in the IS and identified separately from the consumed inventory costs described as COGS
what is a disadvantage of the periodic inventory system?
COGs amount used for financial reporting purposes includes both the cost of inventory sold and inventory shortages (b/c qty of inventory is determined only by physical count)
If a company wants to maximize profits in a period of rising prices, what inventory costing method would they use?
FIFO
If the current mkt value of inventory is less than the fixed purchase price in a pruchase commitment, what is it accounted for?
Describe the nature of the contract in a not, recognize a loss in IS, and recognize a liability for accrued loss
What are the two types of inventory systems to count inventory?
- Periodic
2. Perpetual
Periodic inventory system
use purchases
Qty of inventory is determined only by physical count, usually at least annually => units of inventory and associated costs are counted and valued at the END of the accounting period
COGS is “squeezed”
How is COGS calculated under the periodic method?
BI + Purchases (net of returns and discounts) = COGAFS - EI (physical count) = COGS
Perpetual inventory system
no purchases
Inventory record for each item of inventory is UPDATED for each purchase and each sale as they occur
Actual COGS is determined and recorded with each sale
Modified perpetual inventory system
Units of inventory on hand
Record of units on hand is maintained on a perpetual basis; changes in qty recorded after each sale and purchase
J/E to record purchases under PERIODIC method
Dr. Purchases
Cr. Cash
J/E to record purchases under PERPETUAL method
Dr. Inventory
Cr. Cash
J/E to record sales under PERIODIC
Dr. Cash
Cr. Sales
J/E to record sales under PERPETUAL
Dr. Cash
Cr. Sales
Dr. COGS
Cr. Inventory
Under US GAAP, what is the primary objective in selecting an inventory valuation method?
Selecting a method that will most clearly reflect periodic income
What is inventory valuation dependent on?
The cost flow assumption underlying computation
LIFO, FIFO, and average cost provide a practical bases for the measurement of periodic income
Why is LIFO prohibited under IFRS?
Because it rarely reflects actual physical inventory flows
Specific identification method
Cost of each item in inventory is UNIQUELY identified to that item
Used for physically large and high value items
No estimating
FIFO
Fist costs inventoried are the first costs transferred to COGS
Under FIFO, how are the values of EI and COGS compared for periodic and perpetual?
They are the same
In periods of rising prices, what does the FIFO method result in?
Highest EI
Lowest COGS
Highest NI (highest tax liability)
Weighted average method
At the end of the period, the average cost of each item in inventory would be the weighted average of the costs of all items in inventory
Weighted average = Total costs of inventory available / Total number of units of inventory available
Periodic
Moving average method
Computes the weighted average cost after each purchase
Perpetual
Assuming constant inventory quantities, what inventory costing method would produce a lower inventory turnover ratio in an inflationary economy?
FIFO b/c would result in lower COGS and higher average inventory valuation
LIFO
Last costs inventories are the first costs transferred to COGS
Can LIFO be used for tax purposes?
LIFO Conformity Rule
Yes, but it must also be used for GAAP purposes
In periods of rising prices, what does the LIFO method result in?
Lowest EI
Highest COGS
Lowest NI (lowest taxable income)
When comparing weighted average with moving average, which results in a higher EI and lower COGS?
Moving average
Dollar-value LIFO
Inventory is measured in dollars and is adjusted for changing price levels (estimate of change in price levels required)
Price index used to convert from LIFO to dollar-value LIFO
Price index
Price index = EI at current year cost / EI at base year cost
Compute LIFO layer added in the current year at dollar-value LIFO
LIFO layer at base year cost x internally generated price index
Firm purchase commitments
Legally enforceable agreement to purchase a specified amount of goods at some time int he future
If material, must be disclosed in FS or notes
How is it accounted for if the contracted price in a firm purchase commitment exceeds the market price and if it is expected that losses will occur when the purchase is actually made?
The loss should be recognized at the time of the decline in price
Description of losses recognized must be disclosed in current period’s IS
J/E to record loss on firm purchase commitment
Dr. Estimated loss on purchase commitment
Cr. Estimated liability on purchase commitment
