SAC 2 Part 3

Question 1

What is the first in, first out method of valuing inventory?

Answer 1

A method of valuing inventory that assumes that, unless otherwise indicated, the first items purchased are the first sold, and therefore values inventory sold using the earliest cost price on hand

Question 2

How do you determine the cost price of a sales return under FIFO?

Answer 2

Under FIFO, use the most recent price in the OUT column

Question 3

What are some benefits of using inventory cards in the management of inventory?

Answer 3

Help with the re-ordering of inventory, identify fast/slow moving lines of inventory, provide an estimate of inventory balances at any time

Question 4

What are the benefits of using FIFO compared to identified cost?

Answer 4

It can be applied to all types of inventory and costs less to administer than identified cost

Question 5

How does the FIFO method uphold verifiability and faithful representation?

Answer 5

It uses cost prices which are verifiable by source document, thus it does provide a faithful representation of the value of inventory

Question 6

How is the valuation of cost of sales biased?

Answer 6

There is no way of knowing if the cost prices allocated at the time of the sale were in fact those which applied to those individual items of inventory at the time of their purchase.

Question 7

How does the FIFO method apply to inventory loss?

Answer 7

The oldest inventory still on hand should be assumed to be lost first

Question 8

How does the FIFO method value an inventory gain?

Answer 8

It values inventory at the most recent price in the IN column

Question 9

Why will the identified cost method be more suited than the FIFO method at times?

Answer 9

It allows for the owner to record the actual cost of each inventory item which makes profit more accurate and FIFO assumes cost prices are allocated in order of when they are purchased, making the profit calculation less accurate than identified cost

Question 10

In times of rising cost prices, how does FIFO affect a business?

Answer 10

It assumes that older, cheaper items will be sold first; thus, cost of sales will be lower and net profit/owners equity will be higher than identified cost

Question 11

How is inventory reported in a balance sheet?

Answer 11

As a current asset, because it is a present economic resource controlled by the business, which is reasonably expected to be sold in the next 12 months

Question 12

How is sales revenue distinguished from other revenue?

Answer 12

It must be reported separately to other revenues in the income statement

Question 13

What does net sales refer to?

Answer 13

The overall sales revenue after the deduction of sales returns

Question 14

What does cost of goods sold refer to?

Answer 14

All costs incurred in getting inventory into a condition and location ready for sale

Question 15

How is gross profit calculated?

Answer 15

Sales revenue less cost of goods sold

Question 16

Why is it important to identify the gross profit figure?

Answer 16

In order to express the relationship between the firm’s selling and cost prices, allowing the owner to assess the adequacy of the firm’s mark-up

Question 17

What is adjusted gross profit?

Answer 17

Gross profit (+/-) any inventory gain/loss/write-down

Question 18

What are the benefits of the perpetual system of accounting?

Answer 18

Recording of inventory is assisted, inventory losses/gains can be detected, fast/slow moving lines of inventory can be identified

Question 19

What are the costs of the perpetual system of accounting?

Answer 19

Staffing, training and technology costs

Question 20

By changing from the identified cost to FIFO method, what will happen to net profit and inventory valuation if the cost prices are declining?

Answer 20

The older, more expensive inventory would have been sold first, thus decreasing the net profit and decreasing the inventory valuation at the end of the period