Chapter 8 - Handout - Mervat Salch, CA CHAPTER 8 INVENTORY...

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Unformatted text preview: Mervat Salch, CA CHAPTER 8 INVENTORY l- inventory: (a) Materials held for sale in the ordinary course of business (b) Materials in the process of production for sale (c) Materials or supplies to be consumed in the production / service process l| - Maior Categories of Inventory 1. Merchandise inventory 2. Manufacturing firm: — Raw materials — Work in process —Finished goods. Ill - Lower of Cost and Net Realizable Value Model 1. Goods Included in Ending Inventory 0 The risks and rewards of ownership. 0' Goods in transit at the end of the period shipped F.O.B. shipping point. 0 Goods are shipped F.O.B. destination until received by the buyer. 0 Inventory held on consignment. Excepfions: a) Sales with buybacks b) Sales with high rates of return, AND Sales with delayed payment terms 2. Costs included in Inventory Cost 0 All necessary exp. in acquiring the goods and converting them to a saleable condition. 0 Includes freight, labour, production costs, non-recoverable taxes, restoration costs. 1 Mervat Saleh, CA 0 Costs excluded: - Abnormal spoilage - Interest costs 0 Purchase discounts: - Net Method: - Gross method: 0 Vendor rebates: - Net Method: - Gross method: 0 Borrowing Cost: — Capitalized: — Expensed: 0 Standard Cost: 0 Basket purchases lV -— Inventory systems: 1. Perpetual System 0 Generating up-to-date records c All purchases and sales of goods. 0 Physical inventory count. 2. Periodic System 0 Does not maintain detailed records of inventory 0 Ending inventory is determined by a physical count 0 The quantity of COGS = beginning inventory + purchases — ending inventory 0 The $ value is calculated through an actual count or an estimation. Mervat Saleh, CA Example: Beginning inventory 100 units at $6 = $ 600 Purchases 900 units at $6 = $5,400 Sales 600 units at $12 = $7,200 Ending inventory 400 units at $6 = $2,400 Perpetual System Periodic System To record Inventory Purchases purChases Accounts Payable Accounts Payable To record Accounts Receivable Accounts Receivable sales Sales Sales Cost of Goods Sold No entry Inventory Year end No entry (1) A physical count determines that 400 units remain on hand. (2) Periodic inventory procedures must be used to determine that the cost of the 400 units in ending inventory is $2,400. (3) Cost of Goods Sold Inventory (Beginning) Inventory (Ending) Cost of Goods Sold Cost of Goods Sold Purchases Mcrvat Saleh, CA V- Cost Methods: 1. Specific Identification 0 Each item has been identified with its original cost. 2. FIFO o The oldest inventory cost 0 Ending inventory 0 Periodic and perpetual systems. 3. Weighted Average Cost 0 Prices items in inventory on the basis of the average cost. 0 A new average unit cost is calculated each time a purchase is made. Example 1/1 Begin with 1,000 units @ $5 1/10 Purchase 200 units @ $8 1/15 Sell 400 units 1/20 Purchase 300 units @ $6 1/31 Ending inventory is 1,100 units (1,000 + 200 - 400 + 300) Ending inventory calculations for 1,100 units 1. FIFO (periodic or perpetual) = 2. Weighted average (periodic) 3. Weighted average (perpetual) Mervat Saleh, CA SUMMARY PERIODIC PERPETUAL FIFO Average Cost FIFO Average Cost Goods available for sale Ending inventory Cost of goods sold 4. Estimating Inventopy - Gross Profit Method 0 Cost of Goods Sold = Sales X (100% - % Gross profit on Sales) Vl - Lower of Cost and Net Realizable Value 0 Net realizable value (NRV) = the selling price - the costs of sale or completion. 0 Impairment in value I lower of cost and market: 0 Two methods are used to record inventory at market: - Direct method: - Indirect or allowance method: — Loss — An entry is made - US. 0 The cost and market rule may be applied on: - Individual item basis - Category basis - Total of the inventory — Compare cost and NRV as a group: 1) Related 2) Geographical area 3) Cannot be evaluated separately Mervat Saleh, CA 0 Purchase Commitment: Contracts at a specified price - Loss - I/S - B/S. Vll- Disclosure, Presentation and Analysis 0 The following disclosures are required in the F/S: a. The accounting policy The carrying amount of the inventory in total and by classification The amount of inventories recognized as an expense. The carrying amount inventory pledged as collateral for loans The carrying amount of inventory carried at fair value less costs to sell Inventory write-downs and reversals of write downs. efieeov Biological assets and agricultural products. Vlll - Inventory Errors 0 The failure to include inventory item in a year—end would result in errors in the following accounts: Ending lnv., working capital, COGS, Gross profit, Net income, and R/E. 1- Error Effect on IIS Effect on BIS Beginning Inventory Cost of Goods Sold is. Retained Earnings is Is understated. correct, assuming that Ending Inventory for the preceding period was understated.- Counterbalance error Vice versa is correct Purchases Cost of Goods Sold is Accounts Payable is. are understated Gross Profit and Net Retained Earnings is. Income are Ending Inventory Cost of Goods Sold is Inventory is. Is understated Gross profit and Net Retained Earnings is. Income are. Mervat Saleh, CA Appendix 8A Retail Inventory Method l- Retail inventory method: 0 An inventory estimation technique that observes the pattern between cost and sales price. 0 This method requires a record for: a) Cost of goods available for sale b) The total retail value of the goods available for sale, and c) The sales for the period. o It requires the cost to retail ratio of inventory available for sale. 0 Cost of ending inventory = End. lnv. priced at retail X the cost to retail ratio 0 .The terms of the Retail methods: a. Original Retail Price = cost + original mark-up b. Mark-up. c. Markdowns. II - There are 3 steps in computing retail inventory method: 1. Calculate ending inventory at retail = Cost of goods available for sale (2)—-net markdowns — net sales —— employee discount — normal shrinkage 2. Calculate the cost-to-retail ratio = Cost of goods available for sale at cost Cost of goods available for sale at retail Cost of Goods available for sale (average LCM): Purchase At Beginning Returns Abnormal Freight— Cost Inventory + Purchases - Allowances, - Spoilage + in Discounts Purchase At Beginning Returns, Abnormal Retail Inventory + Purchases — Allowances, - Spoilage + Mark-up Discounts 3. Ending Inventory at LCM = Ending Inventory at retail (1) X Cost to retail Ratio (2) Mcrvat Saleh, CA EXAMPLE: Assume that the following information is given: Beginning inventory Net Markdowns 10,000 At Cost $100,000 At Retail 125,000 Net Sales at Retail $280,000 Net Purchases Average Cost per Unit $ 8.00 At Cost $300,000 At Retail 360,000 Average Selling Price per Unit $10.00 Net Mark—ups 15,000 GROSS PROFIT METHOD % Gross profit on sales = Avg. Selling Price - Avg. Cos = $2/$1O = 20% Avg. Selling Price Cost of goods sold % = 100% - 20% = 80% Cost of goods sold = sales x Cost of goods sold = $280,000 x 80% = $224,000 Ending inventory = Beg. lnv. + purchases — COGS = $100,000 + $300,000 — $224,000 = $176,000 CONVENTIONAL RETAIL METHOD 1. Ending inventory at retail = $125,000 + $360,000 + $15,000 - $10,000 - $280,000 = $210,000 2. Cost-to-retail ratio = $100,000 + $300,000 = $400,000 $125,000 + $360,000 + $15,000 $500,000 = 80% 3. Ending inventory at LCM (net realizable value - normal profit) = 80% X $210,000 = $168,000 ...
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This note was uploaded on 01/17/2012 for the course ACCOUNTING 310 taught by Professor Ily during the Spring '11 term at Concordia Canada.

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Chapter 8 - Handout - Mervat Salch, CA CHAPTER 8 INVENTORY...

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