Blueprint Problem: Perpetual Average Cost
Inventory Valuation Basics
Income measurement and asset valuation are two concepts at the core of accounting. Recall that the matching principle requires that costs incurred to generate revenue should be recognized in the same period that the revenue is earned. For most merchandising companies the cost and control of inventory is the focal point of the operation. Inventory valuation applies to many companies. Thinking about this lesson choose which companies below might benefit from inventory valuation.
Inventory Systems and Costing Methods
Inventory systems and inventory costing methods must be understood for proper inventory valuation and measurement. The two basic systems of accounting for merchandise inventory are the perpetual inventory system and the periodic inventory system. Under the perpetual inventory system continuous records are kept of the quantity and usually the cost of individual items as they are bought and sold. Under the periodic inventory system the inventory not yet sold or on hand is counted periodically. This physical count is usually taken at the end of the accounting period.
What type of inventory tracking system is in use when changes in inventory are immediately displayed on the balance sheet?
_________________
Goods Flow versus Cost Flow
Different valuation methods produce significantly different values for cost of merchandise sold and subsequent inventory levels. This means that the choice of inventory valuation method can have a significant effect on a company’s financial position.
Although the implications are far reaching the two items most directly and immediately affected by the choice of inventory valuation method are cost of merchandise sold on the _________________ and inventory on the _________________ .
The following formula illustrates the relationship between the cost of merchandise sold and the ending inventory. The part of the cost of merchandise available for sale is allocated to the cost of merchandise sold for the inventory that is sold and the value of the unsold inventory is assigned to the ending inventory. Therefore a change in the amount of the cost of merchandise will impact the value of the ending inventory.
How would an inventory valuation method that results in higher cost of merchandise sold for the current period affect the following items?
Choosing a Valuation Method
There are four costing methods: specific identification; first-in first-out (FIFO); last-in first-out (LIFO); and average cost. To better understand the average cost method imagine beginning inventory and each purchase as separate layers. These layers determine the cost of merchandise available for sale. A physical inventory is taken and cost of goods available for sale is then allocated to cost of merchandise sold and ending inventory.
Imagine that you are an external consultant for Portsmouth Co. a company trying to determine the most appropriate inventory valuation method for its operations. Its cost of inventory has been fluctuating up and down all year so Portsmouth Co.’s primary goals are to minimize the effects of the cost fluctuations on its figures for cost of merchandise sold without spending too much money. The available options are FIFO LIFO average cost and specific identification.
Given Portsmouth Co.’s unique needs which method would you recommend?
_________________
Applying Average Cost
You will now put the average cost method into practice. Portsmouth Co. would like to explore what is meant by the weighted average cost per unit a concept that is central to this method of inventory valuation. Remember the weighted average must be adjusted with each purchase. Also as sales occur previous inventory values must be bundled to keep track of inventory on hand and to accurately track subsequent additions to inventory.
Complete the schedule below. Remember the weighted average must be adjusted with each purchase. Also as sales occur previous inventory values must be bundled to keep track of inventory on hand and to accurately track subsequent additions to inventory. Round the average cost per unit to four decimal places and total costs to the nearest dollar.
Cost Per UnitCost of Goods Sold
= $12.00/unit
Purchase 1 (200 @ $12
200 x $12
= $2400
= $ _________________ / unit
Purchase 2 (600 @ $10
600 x $10
= $6000
= $ _________________ /unit
Purchase 3 (700 @ $3)
700 x $3
= $2100
= $ _________________ /unit
Blueprint Problem: FIFO inventory perpetual
Inventory and Cost of Merchandise Sold
Asset valuation and income measurement are two of the most fundamental accounting concepts. For any company that sells goods inventory is a main focus. This problem concentrates on perpetual FIFO inventory valuation.
When a company sells inventory an expense is recorded. Which of the following facts regarding this statement are true?
When a company purchases inventory it is immediately displayed on the _________________ as _________________
The amount at which inventory is recorded is based upon the _________________ .
Inventory Systems and Costing Methods
There are two concepts that must be understood for inventory valuation and measurement: inventory systems and inventory costing methods. The two basic systems of accounting for merchandise inventory are the perpetual inventory system and the periodic inventory system. Under the perpetual inventory system continuous records are kept of the quantity and usually the cost of individual items as they are bought and sold. Under the periodic inventory system the inventory not yet sold or on hand is counted periodically. This physical count is usually taken at the end of the accounting period.
What type of inventory tracking system is in use when changes in inventory are immediately displayed on the balance sheet?
_________________
Goods Flow versus Cost Flow
First-in First-out (FIFO)
There are four costing methods: specific identification; first-in first-out (FIFO); last-in first-out (LIFO); and average cost. This example will focus on FIFO. Under the first-in first-out (FIFO) inventory cost flow method the first units purchased are assumed to be sold and the ending inventory is made up of the most current purchases.
To better understand the FIFO method imagine that beginning inventory and each purchase is a separate layer. These layers determine the cost of goods available for sale. For each sale start with the earliest purchase (which may be beginning inventory) and work forward until you have accounted for the units sold.
Using FIFO we assume the costs of the _________________ items we purchased are assigned to the first items we sell. Therefore the the most recent costs are assigned to the _________________ while the _________________ will consists of costs the beginning inventory and earlier purchases.
According to GAAP there are three acceptable ways in which a publicly traded company may value inventory. They are FIFO LIFO and average cost. In the period below which of the components in the cost of merchandise sold calculation would be affected by a current period change in inventory valuation method (i.e. switching from LIFO to FIFO)?
FIFO Inventory Calculation
Below is the data for the month of January 2011.
Compute the FIFO layers amounts for the cost of merchandise available for sale after each purchase and sale.
After 1/14 Sale
After 1/22 Purchase
After 1/25 Sale
Based on your answers above complete the worksheet below.
Recording Changes in Inventory under FIFO Valuation
After a purchase or sale occurs the transaction must be recorded or journalized. In the following journal record the purchases and sales for the month assuming that all inventory purchases were made with cash and all sales were made on account at a fixed unit price of $22 per unit. There are several facts to remember:
(1) All inventory is purchased with cash and cash only.
(2) All sales are made on account and on account only.
(3) When recording sales record the revenue portion of the transaction first.
NO.
REF.
Blueprint Problem: LIFO inventory – perpetual
Inventory and Cost of Merchandise Sold
Asset valuation and income measurement are two of the most fundamental accounting concepts. For any company that sells goods inventory is a main focus. This problem concentrates on perpetual LIFO inventory valuation.
When a company records a sale it is displayed on the _________________ as _________________ . The amount at which sold inventory is expensed depends on the _________________ . The inventory remaining must be properly valued so that it can be reported on the _________________ in the _________________ section.
_________________
In order to determine the amounts to be reported on the balance sheet and income statement you must first understand the relationship between the cost of merchandise sold and ending inventory. This relationship is expressed in the cost of merchandise sold model.
Use the selection lists to build the cost of merchandise sold model.
Based on the cost of merchandise sold formula the ending inventory can be computed by subtracting the _________________ from the _________________
Inventory Systems and Costing Methods
There are two concepts that must be understood for inventory valuation and measurement: inventory systems and inventory costing methods. The two basic systems of accounting for merchandise inventory are the perpetual inventory system and the periodic inventory system. Under the _________________ inventory system continuous records are kept of the quantity and usually the cost of individual items as they are bought and sold. Under the _________________ inventory system the inventory not yet sold or on hand is counted periodically. This physical count is usually taken at the end of the accounting period.
Although it is more expensive to maintain the _________________ system is far more accurate and up-to-date than other inventory tracking systems.
Goods Flow versus Cost Flow
An accounting issue arises when identical units of merchandise are acquired at different unit costs during a period. In such cases when an item is sold it is necessary to determine its cost using a cost flow assumption and related inventory costing method. An inventory costing method _________________
LIFO (Last-in First-out) Costing
There are four costing methods: specific identification; first-in first-out (FIFO); last-in first-out (LIFO); and average cost. This example will focus on LIFO. Under the last-in first-out (LIFO) inventory cost flow method the last units purchased are assumed to be sold and the ending inventory is made up of the earlier purchases.
To better understand the LIFO method imagine that beginning inventory and each purchase is a separate layer. These layers determine the cost of goods available for sale. For each sale start with the latest purchase and work backwards until you have accounted for the units sold.
Using LIFO we assume the costs of the _________________ items we purchased are assigned to the first items we sell. Therefore the most recent costs are assigned to the _________________ while the _________________ will consists of costs the beginning inventory and earlier purchases.
APPLY THE CONCEPTS: LIFO inventory calculation
Below is the data for the month of January 2011.
Compute the LIFO layers amounts for the cost of merchandise available for sale after each purchase and sale.
After 1/8 Purchase
After 1/14 Sale
After 1/22 Purchase
After 1/25 Sale
Based on your answers above complete the worksheet below.
APPLY THE CONCEPTS: Recording changes in inventory under LIFO valuation
After a purchase or sale occurs the transaction must be recorded or journalized. In the following journal record the purchases and sales for the month assuming that all inventory purchases were made with cash and all sales were made on account at a fixed unit price of $22 per unit. Several facts to remember: (1) All inventory purchases are made with cash and cash only; (2) All sales are made on account and on account only; and (3) when recording sales Schiphol wants you to record the revenue portion of the transaction first.
If an amount box does not require an entry leave it blank.
NO.
REF.
Cost Flow Methods
Three identical units of Item JC07 are purchased during July as shown below.
Assume that one unit is sold on July 31 for $349. Determine the gross profit for July and ending inventory on July 31 using the (a) first-in first-out (FIFO); (b) last-in first-out (LIFO); and (c) weighted average cost methods.
Perpetual Inventory Using FIFO
Beginning inventory purchases and sales for Item ER27 are as follows:
Assuming a perpetual inventory system and using the first-in first-out (FIFO) method determine (a) the cost of merchandise sold on January 28 and (b) the inventory on January 31.
Perpetual Inventory Using LIFO
Beginning inventory purchases and sales for Item CZ83 are as follows:
Assuming a perpetual inventory system and using the last-in first-out (LIFO) method determine (a) the cost of merchandise sold on January 21 and (b) the inventory on January 31.
Lower-of-Cost-or-Market Method
On the basis of the following data determine the value of the inventory at the lower-of-cost-or-market by applying lower-of-cost-or-market to each inventory item as shown in Exhibit 9.
$ _________________
Effect of Inventory Errors
During the taking of its physical inventory on December 31 2014 Zula Company incorrectly counted its inventory as $266700 instead of the correct amount of $304040. Indicate the effect of the misstatement on Zula’s December 31 2014 balance sheet and income statement for the year ended December 31 2014.
Inventory Turnover and Number of Days’ Sales in Inventory
The following financial statement data for years ending December 31 for Gillispie Company are shown below.
a. Determine the inventory turnover for 2014 and 2013. Round to one decimal place.
b. Determine the number of days’ sales in inventory for 2014 and 2013. Assume 365 days a year. Round interim calculations and final answers to one decimal place.
c. Does the change in inventory turnover and the number of days’ sales in inventory from 2013 to 2014 indicate a favorable or an unfavorable trend?
_________________
Perpetual Inventory Using FIFO
Beginning inventory purchases and sales data for portable DVD players are as follows:
The business maintains a perpetual inventory system costing by the first-in first-out method.
Determine the cost of the merchandise sold for each sale and the inventory balance after each sale presenting the data in the form illustrated in Exhibit 3.
a. Under FIFO if units are in inventory at two different costs enter the units with the LOWER unit cost first in the Cost of Merchandise Sold Unit Cost column and in the Inventory Unit Cost column.