Inventories
Consist of assets that a retail or wholesale company acquires for resale or goods that manufacturers produce for sale
Inventories for a manufacturing company include:
Raw materials
Work-in-process
Finished goods
An important objective in inventory accounting is
To match the appropriate cost of goods sold with sales revenue
The cost of work in process and finished goods includes
The cost of raw materials, direct labor, and an allocated portion of manufacturing overhead
Perpetual inventory system
Continuously records both changes in inventory quantity and inventory cost
In a perpetual inventory system, inventory is debited when
Merchandise is purchased or returned by a customer
In a perpetual inventory system, inventory is credited when
Merchandise is sold or returned to a supplier
Periodic inventory system
Adjusts inventory and records cost of goods sold only at the end of each reporting period
In a periodic inventory system, these are recorded as temporary accounts:
Merchandise purchases
Purchase returns
Purchase discounts
Freight-in
In a periodic inventory system, the cost of goods sold is determined
at the end of the period
Cost of goods sold equation
Beginning inventory + net purchases - ending inventory
Net purchases equation
Purchases + freight-in -purchase returns - purchase discounts
In comparison to a periodic system, a perpetual system provides
More timely information, but is more costly
Under both systems, it is necessary to
Perform a physical count of ending inventory
Inventory shipped f.o.b. shipping point
Belongs to buyer when shipped
Inventory shipped f.o.b. destination
Buyer does not own until received
Goods held on consignment are
Included in the inventory of the consignor until sold by the consignee
Expenditures necessary to bring inventory to its condition and location are included in
Inventory cost
The cost of freight-in paid by the purchaser is included in
Inventory cost
Shipping charges on outgoing goods are reported either as
part of cost of goods sold or as an operating expense
Purchase return
Reduction of net purchases
Purchase discounts
Reductions in the amount to be paid if remittance is made within a designated period of time
Purchase discounts are recorded using
Gross method or
net method
Cost of goods available for sale include
Beginning inventory + purchases
Specific identification method
Matches each unit sold or each unit in hand at the end of the period with its actual cost *not feasible for most inventories
Average cost method
Assumes that items sold and items in ending inventory come from a mixture of all the goods available for sale
FIFO (first-in, first-out)
Assumes that items sold are those that were acquired first *ending inventory consists of the most recently acquired items
LIFO (last-in, first-out)
Assumes that items sold are those that were most recently acquired *ending inventory consists of the tens acquired first
The cost flow assumption used
DOES impact the financial statements
If unit costs are increasing,
LIFO will result in a higher cost of goods sold and lower ending inventory than FIFO
A cost flow assumption
DOES NOT have to approximate the actual physical flow
Companies choose LIFO when
To reduce income taxes in periods when prices are rising
LIFO conformity rule
Requires that if a company uses LIFO to measure it's taxable income, LIFO also must be used to measure income reported to investors and creditors
Gross profit ratio
Indicates the percentage of each sales dollar available to cover expenses other than cost of goods sold and to provide a profit
Inventory turnover ratio
Evaluates a company's effectiveness in managing its investment in inventory
Dollar value LIFO
allows a company to to combine a large variety of goods into one inventory pool