Reading 22: Inventories Flashcards
Which of the following is most likely included in a firm’s ending inventory?
Storage costs of finished goods.
Variable production overhead.
Selling and administrative costs.
Variable production overhead is capitalized as a part of inventory. Storage costs not related to the production process, and selling and administrative costs are expensed as incurred. (LOS 22.a)
Under which inventory cost flow assumption does inventory on the balance sheet best approximate its current cost?
First-in, first-out.
Weighted average cost.
Last-in, first-out.
Under FIFO, ending inventory is made up of the most recent purchases, thereby providing a closer approximation of current cost. (LOS 22.b)
In periods of rising prices and stable inventory quantities, which of the following best describes the effect on gross profit of using LIFO as compared to using FIFO?
Lower.
Higher.
The same.
Compared to FIFO, COGS calculated under LIFO will be higher because the most recent, higher cost units are assumed to be the first units sold. Higher COGS under LIFO will result in lower gross profit (revenue – COGS). (LOS 22.c)
In an inflationary environment, a LIFO liquidation will most likely result in an increase in:
inventory.
accounts payable.
operating profit margin.
In a LIFO liquidation, older and lower costs are included in cost of sales. Thus, cost of sales per unit decreases and profit margins increase. (LOS 22.e)
Bangor Company discloses that its LIFO reserve was $625,000 at the end of the previous year and $675,000 at the end of the current year. For the current year, beginning inventory was $2,350,000 and ending inventory was $2,525,000. The firm’s tax rate is 30%. What would Bangor’s ending inventory have been using FIFO?
$2,575,000.
$2,997,500.
$3,200,000.
FIFO inventory = LIFO inventory + LIFO reserve = $2,525,000 + $675,000 = $3,200,000. (LOS 22.f)
A firm that uses LIFO for inventory accounting reported COGS of $300,000 and ending inventory of $200,000 for the current period, and a LIFO reserve that decreased from $40,000 to $35,000 over the period. If the firm had reported using FIFO, its gross profit would have been:
the same.
$5,000 higher.
$5,000 lower.
FIFO COGS = LIFO COGS – (ending LIFO reserve – beginning LIFO reserve)
Ending LIFO reserve – beginning LIFO reserve = $35,000 – $40,000 = –$5,000
With FIFO COGS $5,000 greater than LIFO COGS, gross profit under FIFO would be $5,000 lower than under LIFO. (LOS 22.f)
Kamp, Inc., sells specialized bicycle shoes. At year-end, due to a sudden increase in manufacturing costs, the replacement cost per pair of shoes is $55. The original cost is $43, and the current selling price is $50. The normal profit margin is 10% of the selling price, and the selling costs are $3 per pair. Using the lower of cost or market method under U.S. GAAP, which of the following amounts should each pair of shoes be reported on Kamp’s year-end balance sheet?
$42.
$43.
$47.
Market is equal to the replacement cost as long as replacement cost is within a specific range. The upper bound is net realizable value (NRV) which is equal to the selling price ($50) less selling costs ($3) for a NRV of $47. The lower bound is NRV ($47) less normal profit margin (10% of selling price = $5) for a net amount of $42. Because replacement cost is greater than NRV ($47), market equals NRV ($47). Additionally, we have to use the lower of cost ($43) or market ($47) principle, so the shoes should be recorded at a cost of $43. (Module 22.4, LOS 22.g)
Poulter Products reports under IFRS and wrote its inventory value down from cost of $400,000 to net realizable value of $380,000. The most likely financial statement effect of this change is:
an increase in cost of sales.
a decrease in depreciation charges.
a loss reported as other comprehensive income.
The write-down in inventory value from cost to net realizable value is reported on the income statement either as an addition to cost of sales or as a separate line item, not as other comprehensive income. Depreciation will not be affected as inventory is not depreciated. (Module 22.4, LOS 22.h)
Which of the following inventory disclosures would least likely be found in the footnotes of a firm following IFRS?
The amount of loss reversals, from previously written-down inventory, recognized during the period.
The carrying value of inventories that collateralize a short-term loan.
The separate carrying values of raw materials, work-in-process, and finished goods computed under the LIFO cost flow method.
While the separate carrying values of raw materials, work-in-process, and finished goods are required disclosure for some firms, LIFO is not permitted under IFRS. (Module 22.4, LOS 22.i)
Which of the following is most likely for a firm with high inventory turnover and lower sales growth than the industry average? The firm:
is managing its inventory effectively.
may have obsolete inventory that requires a write-down.
may be losing sales by not carrying enough inventory.
High inventory turnover coupled with low sales growth relative to the industry may be an indication of inadequate inventory levels. In this case, the firm may be losing sales by not carrying enough inventory. (Module 22.5, LOS 22.k)
During a period of increasing prices, compared to reporting under LIFO, a firm that reports using average cost for inventory will have a:
lower gross margin.
higher current ratio.
higher asset turnover.
Compared to using LIFO, using average cost would produce lower COGS, higher gross operating income, and higher ending inventory, so current assets and the current ratio would be higher. Consequently, gross margin would be higher and asset turnover would be lower under the average cost inventory method. (Module 22.5, LOS 22.k, 22.l)
In a period of falling prices, a firm reporting under LIFO, compared to reporting under FIFO, will have a higher:
cost of sales.
gross profit margin.
inventory turnover ratio.
With falling prices, LIFO COGS will include the cost of lower priced inventory and COGS will be less when compared to FIFO COGS. Because of this, the firm would report a higher gross profit margin under LIFO than under FIFO, while LIFO inventory will be higher and inventory turnover lower. (LOS 22.d)
Compared to reporting under FIFO for both tax and financial statements, a firm that chooses to report under LIFO during a period of falling prices would be most likely to report a lower:
inventory.
gross profit.
cash balance.
When prices are falling, LIFO would result in lower COGS (higher gross profit) and higher ending inventory than FIFO. Higher gross profit with LIFO would result in higher taxes payable which would reduce cash balances (as long they pay their taxes). (LOS 22.d)
