Again the best way to show the cost flows is by using

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Chapter 19 / Exercise 5
Statistics for Business & Economics
Anderson
Expert Verified
flow of goods works this way; this is just a way of valuing inventory. Again, the best way to show the cost flows is by using an example. The following worksheet shows columns for purchases, cost of goods sold, andinventory on hand. Two sales and two purchases occur and begin with an inventory on-hand quantity and amount. Focus on the inventory on-hand values and quantities.
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Statistics for Business & Economics
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Chapter 19 / Exercise 5
Statistics for Business & Economics
Anderson
Expert Verified
Average Costing MethodAverage costing is calculated based on a computation of a new average cost per unit after each purchase. The formula is as follows:Total cost of inventory on hand/ Number of units on hand= Average cost per unitThe following example illustrates how this method works. The worksheet is the same format as before and shows two sales and two purchases, and begins with an inventory on-hand quantity and amount. Focus on the inventory on-hand values.The $344 shown is the ending inventory on hand as well as the final calculation of the last transaction, which is Sale 2. This process is different from the FIFO and LIFO methods in that the ending dollar value does not carry forward but the ending units do, and they are added/subtracted by the purchases/sales that occur, and the ending value is based on the average unit cost.
Occasionally, merchandisers find that the cost of replacing an inventory item is lower than what was originallypaid for the item. Conservatism requires the application of the lower-of-cost-or-market (LCM) ruleThe LCM rule states that a business must report inventory in the financial statements at whichever is lower, the historical cost or the market value, of each inventory item. If the replacement cost of inventory is less than its historical cost, a company writes down the inventory value by decreasing inventory and increasing cost of goods sold. This write-down means net income is decreased in the period in which the decrease in the market value of the inventory occurred.
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WHAT INVENTORY COSTING METHODS ARE ALLOWED?(page 212)Finished Goods Inventory – inventory of goods ready to sellRaw materials Inventory –inventory items used in the production of goodsWork in process inventory –inventory of partially completed goodsSpecific-Identification –inventory costing method in which a business uses the specific cost of each unit of inventory; also called the specific-unit-costmethod(page 213)First-In, First-Out (FIFO) – inventory costing method in which the first inventory costs incurred are the first costs to be assigned to cost of goods sold; FIFO leaves in ending inventory the last, most recent costs incurredLast-In, First-Out (LIFO) – inventory costing method in which the last inventory costs incurred are the first costs to be assigned to cost of goods sold; LIFO leaves in ending inventory the first, oldest costs incurredAverage Cost – inventory costing method where, after each purchase of inventory, a new weighted average cost per unit is computed an is used to value ending inventory and cost of goods sold.

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