CHAPTER 6 INVENTORIES

1. The receiving report should be reconciled to the initial purchase order and the vendor s invoice before recording or paying for inventory purchases. This procedure will verify that the inventory received matches the type and quantity of inventory ordered. It also verifies that the vendor s invoice is charging the company for the actual quantity of inventory received at the agreed-upon price. 2. A physical inventory should be taken periodically to test the accuracy of the perpetual records. In addition, a physical inventory will identify inventory shortages or shrinkage. 3. No, they are not techniques for determining physical quantities. The terms refer to cost flow assumptions, which affect the determination of the cost prices assigned to items in the inventory. 4. a. LIFO c. LIFO b. FIFO d. FIFO 5. FIFO CHAPTER 6 INVENTORIES DISCUSSION QUESTIONS 6. LIFO. In periods of rising prices, the use of LIFO will result in the lowest net profit and thus the lowest income tax expense. 7. Net realizable value (estimated selling price less any direct cost of disposition, such as sales commissions). 8. a. Gross profit for the year was understated by $14,750. b. Inventory and equity (retained earnings) were understated by $14,750. 9. Bibbins Company. Since the merchandise was shipped FOB shipping point, title passed to Bibbins Company when it was shipped and should be reported in Bibbins Company s financial statements at May 31, the end of the fiscal year. 10. Manufacturer s. The manufacturer retains title until the goods are sold. Thus, any unsold merchandise at the end of the year is part of the manufacturer s (consignor s) inventory, even though the merchandise is in the hands of the retailer (consignee). 6-1

11. Net realizable value is the core of IAS 2 in the measurement of inventories. At the end of each reporting period, companies assess their inventories, and inventories are carried at LCNRV as required by IAS 2. In the case that the cost of inventories is not recoverable, inventories should be written down and carried at NRV. LCNRV reflects the accounting convention that assets should not be stated in excess of amounts expected to be realized from their sale or use. In principle, the write-down of inventories to NRV can be performed by item. However, write-down by group may be necessary and acceptable when separate valuation of inventory items is impractical because inventories have similar purposes or end uses, and are produced and marketed in the same geographical area. In this case, grouping similar or related items is acceptable for the purpose of write-downs. In this spirit, it is not acceptable to write inventories down simply on the basis of a classification of inventory such as finished goods, or all the inventories in a particular operating segment without relationship among inventories. Service providers generally accumulate costs related to each service for which a separate selling price is charged. Therefore, each such service is treated as a separate item. 12. Three types of inventories are excluded from the application of IAS 2 and have their own accounting standards. These inventories, governed by their own accounting standards, include: 1. Work in process arising under construction contracts, whose accounting treatment is governed by IAS 11 Construction Contracts; 2. Financial instruments, whose accounting treatment is governed by IAS 39 Financial Instruments: Recognition and Measurement; 3. Biological assets related to agricultural activity and agricultural produce at the point of harvest, whose accounting treatment is governed by treated according to IAS 41 Agriculture. 13. The following inventories are covered by IAS 2 but excluded from only the measurement requirements of the standard. In particular, NRV rather than LCNRV is applied in the measurement of the inventories andrelated expense recognition: 1. held by producers of agricultural and forest products, agricultural produce after harvest, and minerals and mineral products, to the extent that they are measured at net realizable value in accordance with well-established practices in the industries. 2. held by commodity brokers and dealers who measure their inventories at net realizable value, i.e., fair value less costs of sales. These inventories are principally acquired with the purpose of selling in the near future and generating a profit from fluctuations in price or broker-traders margin. In the above two cases, changes in net realizable value are recognized in profit or loss in the period of the change rather than as other comprehensive income. 6-2

14. LCNRV of IAS 2 reflects a simple, general accounting convention that assets should not be carried in excess of the amounts to be realized from their sales or use. In the circumstances that the carrying amount, i.e., costs, of inventories may not be recoverable, application of LCNRV means a write-down of inventory to NRV and a related write-down expense. 15. At the end of each reporting period, companies should assess net realizable value of inventories to determine the need of an inventory write-down or a reversal of previous write-down. An item of inventories should be written down to net realizable value if its carrying cost is higher than its net realizable value. However, when the circumstances causing prior write-down of inventories no longer exist and there is clear evidence of an increase in net realizable value, the amount of the write-down should be reversed up to the amount of the original write-down for the portion of inventory still on hand and the new carrying amount is the lower of the cost and the revised net realizable value. Reversal of a write-down increases the carrying value of inventory and a decrease in inventory write-down expense should be recognized in the statement of comprehensive income in the period of the reversal. Therefore, inventories are expensed in two ways. First, when inventories are sold and revenue is recognized, the carrying amount of the inventories sold is recognized as an expense (often called cost-of-goods-sold). Second, any write-down to NRV and any inventory losses are also recognized as an expense as they occur. 6-3 2014 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.

EXERCISES Ex. 6 1 Switching to a perpetual inventory system will strengthen Triple Creek Hardware s internal controls over inventory, since the store managers will be able to keep track of how much of each item is on hand. This should minimize shortages of good-selling items and excess inventories of poor-selling items. On the other hand, switching to a perpetual inventory system will not eliminate the need to take a physical inventory count. A physical inventory must be taken to verify the accuracy of the inventory records in a perpetual inventory system. In addition, a physical inventory count is needed to detect shortages of inventory due to damage or theft. Ex. 6 2 a. Appropriate. The inventory tags will protect the inventory from customer theft. b. Inappropriate. The control of using security measures to protect the inventory is violated if the stockroom is not locked. c. Inappropriate. Good controls include a receiving report, prepared after all inventory items received have been counted and inspected. Inventory purchased should only be recorded and paid for after reconciling the receiving report, the initial purchase order, and the vendor s invoice. 6-4

Ex. 6 3 a. Portable DVD Players Purchases Cost of Merchandise Sold Inventory Unit Total Unit Total Unit Total Date Quantity Cost Cost Quantity Cost Cost Quantity Cost Cost Apr. 1 120 39 4,680 6 90 39 3,510 30 39 1,170 14 140 40 5,600 30 39 1,170 140 40 5,600 19 30 39 1,170 60 40 2,400 80 40 3,200 25 45 40 1,800 15 40 600 30 160 43 6,880 15 40 600 160 43 6,880 30 Balances 9,680 7,480 b. Since the prices rose from $39 for the April 1 inventory to $43 for the purchase on April 30, we would expect that under the weighted average cost method the inventory would be lower. 6-5

Ex. 6 4 Date Purchases Cost of Goods Sold Inventory Unit Total Unit Total Unit Total Quantity Cost Cost Quantity Cost Cost Quantity Cost Cost Jan. 1 1,000 150.00 150,000 Mar. 18 800 150.00 120,000 200 150.00 30,000 May 2 1,800 155.00 279,000 2,000 154.50 309,000 Aug. 9 1,500 154.50 231,750 500 154.50 77,250 Oct. 20 700 160.50 112,350 1,200 158.00 189,600 Dec. 31 Balances 351,750 1,200 158.00 189,600 6-6

Ex. 6 5 Refer to EX. 6-4 Purchases Cost of Goods Sold Inventory Unit Total Unit Total Unit Total Date Quantity Cost Cost Quantity Cost Cost Quantity Cost Cost Jan. 1 1,000 150.00 150,000 Mar. 18 800 150.00 120,000 200 150.00 30,000 May 2 1,800 155.00 279,000 200 150.00 30,000 1,800 155.00 279,000 Aug 9 200 150.00 30,000 1,300 155.00 201,500 500 155.00 77,500 Oct 20 700 160.50 112,350 500 155.00 77,500 700 160.50 112,350 Dec. 31 Balances 351,500 189,850 Ex. 6 6 a. $62,496 (24 units at $1,980 plus 8 units at $1,872) = $47,520 + $14,976 b. $56,448 (32 units at $1,764; $211,680 120 units = $1,764) Cost of goods available for sale: 18 36 42 24 units @ $1,440 units @ $1,656 units @ $1,872 units @ $1,980 $ 25,920 59,616 78,624 47,520 120 units (at an average cost of $1,764) $211,680 6-7

Ex. 6 7 Cost merchandise Inventory Method Inventory Sold a. FIFO $39,888 $77,112 b. Weighted average cost 37,440 79,560 Cost of merchandise available for sale: 42 units at $720... $ 30,240 58 units at $780... 45,240 20 units at $816.. 16,320 30 units at $840. 25,200 150 units (at an average cost of $780) $117,000 a. First-in, first-out: Inventory: 30 units at $840.. $25,200 18 units at $816... 14,688 48 units.. $39,888 Merchandise sold: $117,000 $39,888. $77,112 b. Weighted average cost: Inventory: 48 units at $780 ($117,000 150 units) $37,440 Merchandise sold: $117,000 $37,440... $79,560 6-8

Ex. 6 8 Lower-of-costor-net realizable value Lawnmowers: Self-propelled $15,000 Push type 16,000 Snowblowers: Manual 30,000 Self-start 18,000 Total inventory $79,000 6-9 2014 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.

Ex. 6 9 Cost Net Realizable value Lower-of-costor-net realizable value VCRs $9,100 $9,940 $9,100 DVD players 15,750 14,490 14,490 Ipods 14,000 13,650 16,650 Total inventory $38,850 $38,080 $37,240 Ex. 6 10 Cost Net Realizable value Lower-of-costor-net realizable value A 1,000 950 950 B 4,500 4,500 4,500 C 1,200 1,240 1,200 D 1,600 1,480 1,480 Total inventory 8,300 8,170 8,130 6-10 2014 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.

Ex. 6 11 a. Inventory* Current assets Total assets equity * $13,850 = $338,500 $324,650 Statement of Financial Position $13,850 understated $13,850 understated $13,850 understated $13,850 understated b. Statement of Comprehensive Income Cost of Goods Sold Gross profit Net profit $13,850 overstated $13,850 understated $13,850 understated c. Statement of Comprehensive Income Cost of Goods Sold Gross profit Net profit $13,850 understated $13,850 overstated $13,850 overstated d. The December 31, 2015, statement of financial position would be correct, since the 2014 inventory error reverses itself in 2015. Ex. 6 12 a. Inventory* Current assets Total assets equity * $21,600 = $640,500 $618,900 Statement of Financial Position $21,600 overstated $21,600 overstated $21,600 overstated $21,600 overstated b. Statement of Comprehensive Income Cost of Goods Sold $21,600 understated Gross profit $21,600 overstated Net profit $21,600 overstated c. Statement of Comprehensive Income Cost of Goods Sold $21,600 overstated Gross profit $21,600 understated Net profit $21,600 understated d. The December 31, 2015, statement of financial position would be correct, since the 2014 inventory error reverses itself in 2015. 6-11

Ex. 6 13 When an error is discovered affecting the prior period, it should be corrected. In this case, the inventory account should be debited and the retained earnings account credited for $33,000. Failure to correct the error for 2013 and purposely misstating the inventory and the cost of goods sold in 2014 would cause the statement of comprehensive incomes for the two years to not be comparable. The statement of financial position at the end of 2014 would be correct, however, since the 2013 inventory error reverses itself in 2014. Ex. 6 14 a. Apple: 52.5 {$39,541,000 [($1,051,000 + $455,000) 2]} American Greetings: 4.0 {$682,368 [($179,730 + $163,956) 2]} b. Lower. Although American Greetings business is seasonal in nature, with most of its revenue generated during the major holidays, much of its nonholiday inventory may turn over very slowly. Apple, on the other hand, turns its inventory over very fast because it maintains a low inventory, which allows it to respond quickly to customer needs. Additionally, Apple s computer products can quickly become obsolete, so it cannot risk building large inventories. 6-12

Ex. 6 15 a. Number of Days Sales in Inventory = Average Inventory Cost of Goods Sold 365 Kroger: ($4,966 + $4,935) 2 $63,927 365 = $4,950.5 175.1 = 28 days Safeway: ($2,623 + $2,509) 2 $29,443 365 $2,566.0 = = 80.7 32 days ($658 + $665) 2 $661.5 Winn-Dixie: = = $5,182 365 14.2 47 days Inventory Turnover = Cost of Goods Sold Average Inventory Kroger: $63,927 ($4,966 + $4,935) 2 = 12.9 Safeway: $29,443 ($2,623 + $2,509) 2 = 11.5 Winn-Dixie: $5,182 ($658 + $665) 2 = 7.8 b. The number of days sales in inventory and the inventory turnover ratios are relatively the same for Kroger and Safeway. Winn-Dixie has a significantly higher number of days sales in inventory and a significantly lower inventory turnover than Kroger and Safeway. These results suggest that Kroger and Safeway are more efficient than Winn-Dixie in managing inventory. c. If Winn-Dixie matched Kroger s days sales in inventory, then its hypothetical ending inventory would be determined as follows, Number of Days Sales in Inventory = Average Inventory Cost of Goods Sold 365 28 days = X ($5,182 365) X = 28 ($5,182 365) = 28 $14.2 X = $397.6 Thus, the additional cash flow that would have been generated is the difference between the actual average inventory and the hypothetical average inventory, as follows: Actual average inventory Hypothetical average inventory Positive cash flow potential $661.5 million 397.6 million $263.9 million That is, a lower average inventory amount would have required less cash than actually was required. 6-13

Appendix Ex. 6 16 $666,900 ($1,235,000 54%) Appendix Ex. 6 17 $241,804 ($396,400 61%) Appendix Ex. 6 18 $511,500 ($775,000 66%) Appendix Ex. 6 19 Cost Retail Inventory, June 1 $ 165,000 $ 275,000 Purchases in June (net) 2,361,500 3,800,000 Merchandise available for sale $2,526,500 $4,075,000 Ratio of cost to retail price: $2,526,500 $4,075,000 = 62% Sales for June (net) 3,550,000 Inventory, June 30, at retail price $ 525,000 Inventory, June 30, at estimated cost ($525,000 62%) $ 325,500 Appendix Ex. 6 20 a. Inventory, January 1 $ 350,000 Purchases (net), January 1 December 31 2,950,000 Merchandise available for sale $3,300,000 Sales (net), January 1 December 31 $4,440,000 Less estimated gross profit ($4,440,000 35%) 1,554,000 Estimated cost of goods sold 2,886,000 Estimated inventory, December 31 $ 414,000 b. The gross profit method is useful for estimating inventories for monthly or quarterly financial statements. It is also useful in estimating the cost of merchandise destroyed by fire or other disasters. 6-14

Appendix Ex. 6 21 Merchandise available for sale $6,125,000 Less cost of goods sold [$9,250,000 (100% 36%)] 5,920,000 Estimated ending inventory $ 205,000 Appendix Ex. 6 22 Merchandise available for sale $960,000 Less cost of goods sold [$1,450,000 (100% 42%)] 841,000 Estimated ending inventory $119,000 6-15

Prob. 6 1A 1. PROBLEMS Date 2014 Purchases Cost of goods sold Inventory Unit Total Unit Total Unit Total Quantity Cost Cost Quantity Cost Cost Quantity Cost Cost June 1 500 30.00 15,000 10 1,500 34.00 51,000 500 30.00 15,000 1,500 34.00 51,000 28 500 30.00 15,000 250 34.00 8,500 1,250 34.00 42,500 30 250 34.00 8,500 1,000 34.00 34,000 July 5 100 34.00 3,400 900 34.00 30,600 10 3,600 35.00 126,000 900 34.00 30,600 3,600 35.00 126,000 16 900 34.00 30,600 900 35.00 31,500 2,700 35.00 94,500 28 1,700 35.00 59,500 1,000 35.00 35,000 Aug. 5 3,000 35.80 107,400 1,000 35.00 35,000 3,000 35.80 107,400 14 1,000 35.00 35,000 1,000 35.80 35,800 2,000 35.80 71,600 25 500 36.00 18,000 2,000 35.80 71,600 500 36.00 18,000 30 1,750 35.80 62,650 250 35.80 8,950 500 36.00 18,000 31 Balances 290,450 26,950 6-16

Prob. 6 1A (Concluded) 2. Accounts Receivable 483,800 Sales 483,800* Cost of goods sold 290,450 Inventory 290,450 *$483,800 = $37,500 + $13,000 + $5,500 + $100,800 + $102,000 + $120,000 + $105,000 3. $193,350 ($483,800 $290,450) 4. $26,950 ($8,950 + $18,000) 5. Since the prices rose from $30 for the June 1 inventory to $36 for the purchase on August 25, we would expect that under the last-in, first-out method the inventory would be lower. 6-17

Prob. 6 2A 1. Date Purchases Unit Total Unit Total Unit Total Quantity Cost Cost Quantity Cost Cost Quantity Cost Cost June 1 500 30.00 15,000 10 1,500 34.00 51,000 2,000 33.00 66,000 28 750 33.00 24,750 1,250 33.00 41,250 30 250 33.00 8,250 1,000 33.00 33,000 July 5 100 33.00 3,300 900 33.00 29,700 10 3,600 35.00 126,000 4,500 34.60 155,700 16 1,800 34.60 62,280 2,700 34.60 93,420 28 1,700 34.60 58,820 1,000 34.60 34,600 Aug. 5 3,000 35.80 107,400 4,000 35.50 142,000 14 2,000 35.50 71,000 2,000 35.50 71,000 25 500 36.00 18,000 2,500 35.60 89,000 30 1,750 35.60 62,300 750 35.60 26,700 31 Balances 290,700 26,700 2. Total sales $483,800 Total cost of goods sold 290,700 * Gross profit $193,100 *$483,800 = $37,500 + $13,000 + $5,500 + $100,800 + $102,000 + $120,000 + $105,000 3. $26,700 (750 units $35.60) Cost of Goods Sold Inventory 6-18

Prob. 6 3A 1. First-In, First-Out Method Inventory, August 31, 2014 $ 26,950 Cost of goods sold 290,450 Supporting computations Inventory: 500 units @ $36.00 $18,000 250 units @ $35.80 8,950 750 units $26,950 Cost of goods sold: Beginning inventory, June 1, 2014 $ 15,000 Purchases 302,400 Merchandise available for sale $317,400 Less ending inventory, August 31, 2014 26,950 Cost of goods sold $290,450 6-19

Prob. 6 3A (Continued) 2. Weighted Average Cost Method Merchandise inventory, August 31, 2014 $ 26,160 Cost of merchandise sold 291,240 Supporting computations Weighted Average Unit Cost = Total Cost of Merchandise Available for Sale Units Available for Sale $317,400 = = $34.88 per unit (rounded) 9,100 units Merchandise inventory: 750 units $34.88 = $26,160 Cost of merchandise sold: Beginning inventory, June 1, 2014 Purchases 37,200 Merchandise available for sale $37,200 Less ending inventory, August 31, 2014 26,160 Cost of goods sold $11,040 6-20

Prob. 6 3A (Concluded) 3. Weighted FIFO Average Sales $483,800 $483,800 Cost of goods sold Gross profit $483,800 $483,800 Inventory, August 31, 2014 $ 25,200 6-21 2014 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.

Prob. 6 4A 1. First-In, First-Out Method Model Quantity Unit Cost Total Cost A10 4 $ 76 $ 304 2 70 140 B15 6 184 1,104 2 170 340 E60 5 70 350 G83 9 259 2,331 J34 15 270 4,050 M90 3 130 390 2 128 256 Q70 7 180 1,260 1 175 175 Total $10,700 6-22

Prob. 6 4A (Concluded) 2. Weighted Average Cost Method A10 B15 E60 G83 J34 M90 Q70 Total Model Quantity Unit Cost* Total Cost 6 $ 70 $ 420 8 174 1,392 5 69 345 9 253 2,277 15 258 3,870 5 121 605 8 172 1,376 $10,285 * Computations of unit costs: A10: $70 = [(4 $64) + (4 $70) + (4 $76)] (4 + 4 + 4) B15: $174 = [(8 $176) + (4 $158) + (3 $170) + (6 $184)] (8 + 4 + 3 + 6) E60: $69 = [(3 $75) + (3 $65) + (15 $68) + (9 $70)] (3 + 3 + 15 + 9) G83: $253 = [(7 $242) + (6 $250) + (5 $260) + (10 $259)] (7 + 6 + 5 + 10) J34: $258 = [(12 $240) + (10 $246) + (16 $267) + (16 $270)] (12 + 10 + 16 + 16) M90: $121 = [(2 $108) + (2 $110) + (3 $128) + (3 $130)] (2 + 2 + 3 + 3) Q70: $172 = [(5 $160) + (4 $170) + (4 $175) + (7 $180)] (5 + 4 + 4 + 7) 6-23

Prob. 6 5A Inventory Sheet December 31, 2014 Unit Inventory Cost Market Description Quantity Price Price Cost Market LCM B12 38 30 $ 60 $ 57 $ 1,800 $ 1,710 8 59 57 472 456 2,272 2,166 $ 2,166 E41 18 178 180 3,204 3,240 3,204 G19 33 20 128 126 2,560 2,520 13 129 126 1,677 1,638 4,237 4,158 4,158 L88 18 10 563 550 5,630 5,500 8 560 550 4,480 4,400 10,110 9,900 9,900 N94 400 8 7 3,200 2,800 2,800 P24 90 80 22 18 1,760 1,440 10 21 18 210 180 1,970 1,620 1,620 R66 8 5 248 250 1,240 1,250 3 260 250 780 750 2,020 2,000 2,000 T33 140 100 21 20 2,100 2,000 40 19 20 760 800 2,860 2,800 2,800 Z16 15 10 750 752 7,500 7,520 5 745 752 3,725 3,760 11,225 11,280 11,225 Total $41,098 $39,964 $39,873 Unit Total 6-24

Prob. 6 6A July 1, 2014 Biological Asset Cattle 24,400 Gain or Loss on Changes in Fair Value less Cost to sell 1,600 Cash 26,000 During the year of 2014 Operating Expenses 8,000 Cash 8,000 December 31, 2014 Biological Asset Cattle 2,600 Gain or Loss on Change in Fair Value less Cost to Sell February 15, 2015 Biological Asset Cattle 3,000 Gain or Loss on Change in Fair Value less Cost to Sell 3,000 May 15, 2015 Biological Asset Cattle 25,300 Gain or Loss on Change in Fair Value less Cost to Sell 1,700 Cash 27,000 July 15, 2015 Agricultural Produce Beef 29,100 Operating Expense 500 Biological Asset Cattle 27,000 Gain or Loss on Change in Fair Value less Cost to Sell 2,100 Cash 500 Cash 29,100 Agricultural Produce Beef 29,100 During the year of 2015 Operating Expenses 10,000 Cash 10,000 December 31 2015 Biological Assets Cattle 6,000 Gain or Loss on Change in Fair Value less Cost to Sell 6,000 6-25 2014 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.

Appendix Prob. 6 7A 1. CELEBRITY TAN CO. Cost Retail Inventory, August 1 $ 300,000 $ 575,000 Net purchases 2,149,000 3,375,000 Merchandise available for sale $2,449,000 $3,950,000 Ratio of cost to retail price: $2,449,000 $3,950,000 = 62% Sales $3,250,000 Less sales returns and allowances 80,000 Net sales 3,170,000 Inventory, August 31, at retail $ 780,000 Inventory, at estimated cost ($780,000 62%) $ 483,600 2. RANCHWORKS CO. a. Inventory, March 1 $ 880,000 Net purchases 9,500,000 Merchandise available for sale $10,380,000 Sales $15,900,000 Less sales returns and allowances 100,000 Net sales $15,800,000 Less estimated gross profit ($15,800,000 38%) 6,004,000 Estimated cost of goods sold 9,796,000 Estimated inventory, November 30 $ 584,000 Cost b. Estimated inventory, November 30 $ 584,000 Physical inventory count, November 30 369,750 Estimated loss due to theft or damage, March 1 November 30 $ 214,250 6-26

Prob. 6 1B 1. Purchases Cost of Goods Sold Inventory Unit Total Unit Total Unit Total Date Quantity Cost Cost Quantity Cost Cost Quantity Cost Cost Apr. 3 25 1,200 30,000 8 75 1,240 93,000 25 1,200 30,000 75 1,240 93,000 11 25 1,200 30,000 15 1,240 18,600 60 1,240 74,400 30 30 1,240 37,200 30 1,240 37,200 May 8 60 1,260 75,600 30 1,240 37,200 60 1,260 75,600 10 30 1,240 37,200 20 1,260 25,200 40 1,260 50,400 19 20 1,260 25,200 20 1,260 25,200 28 80 1,260 100,800 20 1,260 25,200 80 1,260 100,800 June 5 20 1,260 25,200 20 1,260 25,200 60 1,260 75,600 16 25 1,260 31,500 35 1,260 44,100 21 35 1,264 44,240 35 1,260 44,100 35 1,264 44,240 28 35 1,260 44,100 9 1,264 11,376 26 1,264 32,864 30 Balances 310,776 32,864 6-27

Prob. 6 1B (Concluded) 2. Accounts Receivable 525,250 Sales 525,250* Cost of Goods Sold 310,776 Inventory 310,776 *$525,250 = $80,000 + $60,000 + $100,000 + $40,000 + $90,000 + $56,250 + $99,000 3. $214,474 ($525,250 $310,776) 4. $32,864 ($26 units $1,264) 5. Since the prices rose from $1,200 for the April 3 inventory to $1,264 for the purchase the purchase on June 21, we would expect that under the weighted average (last-in, first-out) method the inventory wouldbe lower. Note to Instructors: Problem 6 2B shows that the inventory is $32,786 ($31,560) under WA (LIFO). 6-28

Prob. 6 2B 1. Date Purchases Cost of Goods Sold Inventory Unit Total Unit Total Unit Total Quantity Cost Cost Quantity Cost Cost Quantity Cost Cost Apr. 3 25 1,200 30,000 8 75 1,240 93,000 100 1,230 123,000 11 40 1,230 49,200 60 1,230 73,800 30 30 1,230 36,900 30 1,230 36,900 May 8 60 1,260 75,600 90 1,250 112,500 10 50 1,250 62,500 40 1,250 50,000 19 20 1,250 25,000 20 1,250 25,000 28 80 1,260 100,800 100 1,258 125,800 June 5 40 1,258 50,320 60 1,258 75,480 16 25 1,258 31,450 35 1,258 44,030 21 35 1,264 44,240 70 1,261 88,270 28 44 1,261 55,484 26 1,261 32,786 30 Balances 310,854 32,786 2. Total sales $525,250 Total cost of goods sold 310,854 Gross profit $214,396 * *$525,250 = $80,000 + $60,000 + $100,000 + $40,000 + $90,000 + $56,250 + $99,000 3. $32,786 (26 units $1,261) 6-29

Prob. 6 3B 1. First-In, First-Out Method Inventory, June 30, 2014. $ 32,864 Cost of goods sold.. 310,776 Supporting computations Inventory: 26 units @ $1,264... $ 32,864 Cost of goods sold: Beginning inventory, April 1, 2014. $ 30,000 Purchases. 313,640 Merchandise available for sale. $343,640 Less ending inventory, June 30, 2014 32,864 Cost of goods sold.. $310,776 6-30

Prob. 6 3B (Continued) 2. Weighted Average Cost Method Inventory, June 30, 2014 $ 32,500 Cost of goods sold 311,140 Supporting computations Weighted Average Unit Cost = Total Cost of Merchandise Available for Sale Units Available for Sale $343,640 = = $1,250 per unit (rounded) 275 units Inventory: 26 units $1,250 = $32,500 Cost of goods sold: Beginning inventory, April 1, 2014. $ 30,000 Purchases 313,640 Merchandise available for sale $343,640 Less ending inventory, June 30, 2014 32,500 Cost of goods sold $311,140 6-31

Prob. 6 3B (Concluded) 3. Weighted FIFO Average Sales $525,250 $525,250 Cost of merchandise sold 310,776 311,140 Gross profit $214,474 $214,110 Inventory, June 30, 2014 $ 32,864 $ 32,500 6-32 2014 Cengage Learning. All Rights Reserved. May not be scanned, copied or duplicated, or posted to a publicly accessible website, in whole or in part.

Prob. 6 4B 1. First-In, First-Out Method Model Quantity Unit Cost Total Cost C55 3 $1,070 $ 3,210 1 1,060 1,060 D11 6 675 4,050 5 666 3,330 F32 1 280 280 1 260 260 H29 4 317 1,268 K47 6 542 3,252 2 549 1,098 S33 2 232 464 X74 7 39 273 Total $18,545 2. Weighted Average Cost Method C55 D11 F32 H29 K47 S33 X74 Total Model Quantity Unit Cost* Total Cost 4 $1,056 $ 4,224 11 654 7,194 2 252 504 4 311 1,244 8 534 4,272 2 227 454 7 37 259 $18,151 * Computations of unit costs: C55: $1,056 = [(3 $1,040) + (3 $1,054) + (3 $1,060) + (3 $1,070)] (3 + 3 + 3 + 3) D11: $654 = [(9 $639) + (7 $645) + (6 $666) + (6 $675)] (9 + 7 + 6 + 6) F32: $252 = [(5 $240) + (3 $260) + (1 $260) + (1 $280)] (5 + 3 + 1 + 1) H29: $311 = [(6 $305) + (3 $310) + (3 $316) + (4 $317)] (6 + 3 + 3 + 4) K47: $534 = [(6 $520) + (8 $531) + (4 $549) + (6 $542)] (6 + 8 + 4 + 6) S33: $227 = [(4 $222) + (4 $232)] (4 + 4) X74: $37 = [(4 $35) + (6 $36) + (8 $37) + (7 $39)] (4 + 6 + 8 + 7) 6-33

Prob. 6 5B Unit Inventory Sheet December 31, 2014 Inventory Cost Market Commodity Quantity Price Price Cost Market LCM Unit Total A54 37 30 $ 60 $ 56 $ 1,800 $ 1,680 7 58 56 406 392 2,206 2,072 $ 2,072 C77 24 174 178 4,176 4,272 4,176 F66 30 20 130 132 2,600 2,640 10 128 132 1,280 1,320 3,880 3,960 3,880 H83 21 6 547 545 3,282 3,270 15 540 545 8,100 8,175 11,382 11,445 11,382 K12 375 6 5 2,250 1,875 1,875 Q58 90 75 25 18 1,875 1,350 15 26 18 390 270 2,265 1,620 1,620 S36 8 5 256 235 1,280 1,175 3 260 235 780 705 2,060 1,880 1,880 V97 140 100 17 20 1,700 2,000 40 16 20 640 800 2,340 2,800 2,340 Y88 17 10 750 744 7,500 7,440 7 740 744 5,180 5,208 12,680 12,648 12,648 Total $43,239 $42,572 $41,873 6-34

Appendix Prob. 6 6B 1. JAFFE CO. Cost Retail Inventory, February 1 $ 400,000 $ 615,000 Net purchases 4,055,000 5,325,000 Merchandise available for sale $4,455,000 $5,940,000 Ratio of cost to retail price: $4,455,000 $5,940,000 = 75% Sales $5,220,000 Less sales returns and allowances 120,000 Net sales 5,100,000 Inventory, February 28, at retail $ 840,000 Inventory, at estimated cost ($840,000 75%) $ 630,000 2. CORONADO CO. Cost a. Inventory, May 1 $ 400,000 Net purchases 3,150,000 Merchandise available for sale $3,550,000 Sales $4,850,000 Less sales returns and allowances 100,000 Net sales $4,750,000 Less estimated gross profit ($4,750,000 35%) 1,662,500 Estimated cost of goods sold 3,087,500 Estimated inventory, October 31 $ 462,500 b. Estimated inventory, October 31 $ 462,500 Physical inventory count, October 31 366,500 Estimated loss due to theft or damage, May 1 October 31 $ 96,000 6-35

CASES & PROJECTS CP 6 1 Since the title to merchandise shipped FOB shipping point passes to the buyer when the merchandise is shipped, the shipments made before midnight, October 31, 2014, should properly be recorded as sales for the fiscal year ending October 31, 2014. Hence, Ryan Frazier is behaving in a professional manner. However, Ryan should realize that recording these sales in 2014 precludes them from being recognized as sales in 2015. Thus, accelerating the shipment of orders to increase sales of one period will have the effect of decreasing sales of the next period. 6-36

CP 6 2 1. a. First-in, first-out method: 8,000 units at $48.00 $ 384,000 8,000 units at $44.85 358,800 12,800 units at $43.50 556,800 3,200 units at $42.75 136,800 32,000 units... $1,436,400 b. Weighted average cost method: 32,000 units at $40.74* $1,303,680 * ($8,148,000 200,000) = $40.74 2. Weighted FIFO Average Cost Sales $10,000,000 $10,000,000 Cost of goods sold* 6,711,600 6,844,320 Gross profit $ 3,288,400 $ 3,155,680 * Cost of merchandise available for sale $8,148,000 $8,148,000 Less ending inventory 1,436,400 1,303,680 Cost of goods sold $6,711,600 $6,844,320 3. a. The WA method is viewed as a better method for reflecting income from operations than does the FIFO method. This is because the WA method include more recent cost the merchandise purchases against current sale. The matching of currrent costs with current sales results in a gross profit amount that many consider to better reflect the results of current operations. For Golden Eagle Company, the gross profit of $3,155,608 reflects the matching of the more recent costs of the product of $6,884,320 against the current period sales of $10,000,000. This matching of current costs with current sales also tends to minimize the effects of price trends on the results of operations. However, the WA method will pick up some of the earlier inventory cost if the current-period quantity of sales exceeds the current-period quantity of purchase. In this case, the cost of goods sold will include a portion of the cost of the beginning inventory, which may have a unit cost from purchses made in prior years. The results of operations may then be distorted in the sense of the current matching concept. This situation occurs rarely in most businesses because of consistently increasing quantities of year-end inventory from year to year. 6-37

CP 6 2 (Continued) While the WA method can be viewed as a better method for matching revenues and expenses, the FIFO method is often consistent with the physical movement of merchandise in a business, since most businesses tend to dispose of commodities in the order of their acquisition. To the extent that this is the case, the FIFO method approximates the results that will be attained by a specific identification of costs. The weighted average cost method is, in a sense, a compromise between LIFO and FIFO. The effect of price trends is averaged, both in determining net profit and in determining inventory cost. Which inventory costing method best reflects the results of operations for Golden Eagle Company depends upon whether one emphasizes the importance of matching revenues and expenses (the LIFO method) or whether one emphasizes the physical flow of merchandise (the FIFO method). The average cost method might be considered best if one emphasizes the matching and physical flow of goods concepts equally. b. The FIFO method provides the best reflection of the replacement cost of the ending inventory for the statement of financial position. This is because the amount reported on the statement of financial position for inventory will be assigned costs from the most recent purchases. For most businesses, these costs will reflect purchases made near the end of the period. For example, Golden Eagle Company s ending inventory on December 31, 2014, is assigned costs totaling $1,436,400 under the FIFO method. These costs represent purchases made during the period of August through December. This FIFO inventory amount ($1,436,400) more closely approximates the replacement cost of the ending inventory than the average cost ($1,303,680) figures. c. During periods of rising prices, such as shown for Golden Eagle Company, the WA method will result in a lesser amount of net profit than the other two methods. Hence, for Golden Eagle Company, the WA method would be preferred for the current year, since it would result in a lesser amount of income tax. During periods of declining prices, the WA method will result in a lesser amount of net profit and would be preferred for income tax purposes. 6-38

CP 6 2 (Concluded) d. The advantages of the perpetual inventory system include the following: (1) A perpetual inventory system provides an effective means of control over inventory. A comparison of the amount of inventory on hand with the balance of the subsidiary account can be used to determine the existence and seriousness of any inventory shortages. (2) A perpetual inventory system provides an accurate method for determining inventories used in the preparation of interim statements. (3) A perpetual inventory system provides an aid for maintaining inventories at optimum levels. Frequent review of the perpetual inventory records helps management in the timely reordering of merchandise, so that loss of sales and excessive accumulation of inventory are avoided. An analysis of Golden Eagle Company s purchases and sales, as shown below, indicates that the company may have accumulated excess inventory from May through August because the amount of month-end inventory increased materially, while sales remained relatively constant for the period. Month Purchases Increase (Decrease) in Inventory at Next Month s Sales Inventory End of Month Sales April 31,000 units 16,000 units 15,000 units 15,000 units 16,000 units May 33,000 16,000 17,000 32,000 20,000 June 40,000 20,000 20,000 52,000 24,000 July 40,000 24,000 16,000 68,000 28,000 August 27,200 28,000 (800) 67,200 28,000 September 0 28,000 (28,000) 39,200 18,000 October 12,800 18,000 (5,200) 34,000 10,000 November 8,000 10,000 (2,000) 32,000 8,000 December 8,000 8,000 0 32,000 0 It appears that during April through July, the company ordered inventory without regard to the accumulation of excess inventory. A perpetual inventory system might have prevented this excess accumulation from occurring. The primary disadvantage of the perpetual inventory system is the cost of maintaining the necessary inventory records. However, computers may be used to reduce this cost. 6-39

CP 6 3 a. Inventory Turnover = Cost of Goods Sold Average Inventory Number of Days Sales in Inventory = Average Inventory Cost of Goods Sold 365 Dell $50,098 $50,098 Inventory Turnover = = = ($1,051 + $1,301) 2 $1,176.0 Days Sales in ($1,051 + $1,301) 2 $1,176.0 = = = Inventory $50,098 365 $137.3 42.6 8.6 days Hewlett-Packard Inventory Turnover = $96,089 $96,089 = ($6,128 + $6,466) 2 $6,297.0 = Days Sales in ($6,128 + $6,466) 2 $6,297.0 = = Inventory $96,089 365 $263.3 = 15.3 23.9 days b. Dell builds its computers primarily to a customer order, called a build-to-order strategy. Customers place their orders on the Internet. Dell then builds and delivers the computer, usually in a matter of days. HP, in contrast, builds computers before actual orders are received. This is called a build-to-stock strategy. HP must forecast the type of computers customers want before it receives the orders. This strategy results in greater inventory for HP, since the computers are built before there is a sale. HP has significant finished goods inventory, while Dell has less finished goods. It also explains the difference in their inventory efficiency ratios. Note to Instructors: While Dell sells most of its computers online, it has also begun selling its computers through Best Buy. As a result, Dell s inventory turnover has decreased and its days sales in inventory has increased from prior years. 6-40

CP 6 4 a. Inventory Number of Days Turnover Sales in Inventory Tiffany Co. Amazon.com 0.83 9.89 441.15 36.92 Computations: Tiffany Co. Inventory Turnover = Cost of Goods Sold Average Inventory Inventory Turnover = $1,263 ($1,428 + $1,625) 2 = 0.83 Number of Days Sales in Inventory = Average Inventory Cost of Goods Sold 365 Number of Days ($1,428 + $1,625) 2 = 441.19 days = Sales in Inventory $1,263 365 or 441 days (rounded) Amazon.com Inventory Turnover = Cost of Goods Sold Average Inventory Inventory Turnover $26,561 = = 9.89 ($2,171 + $3,202) 2 Number of Days Sales in Inventory = Average Inventory Cost of Goods Sold 365 Number of Days ($2,171 + $3,202) 2 = 36.92 days = Sales in Inventory $26,561 365 or 37 days (rounded) b. Amazon.com has a smaller investment in inventory for its volume than does Tiffany. Amazon.com s inventory turnover is faster (larger), and the number of days sales in inventory is shorter (smaller). This is due to the fact that Amazon.com uses a different business model than Tiffany. That is, Amazon.com sells through the Internet, while Tiffany uses the traditional retail store model, which requires it to stock more inventory. 6-41

CP 6 5 a. Costco Walmart JCPenney 1. Cost of goods sold $67,995 $315,287 $10,799 Inventory, beginning $ 5,405 $ 32,713 $ 3,024 Inventory, ending 5,638 36,318 3,213 Total $11,043 $ 69,031 $ 6,237 2. Average Inventory (Total 2) $5,521.5 $34,515.5 $3,118.5 Inventory turnover 12.3 9.1 3.5 b. Costco Walmart JCPenney 1. Average inventory [from part (a)] $5,521.5 $34,515.5 $3,118.5 Cost of goods sold $ 67,995 $ 315,287 $ 10,799 Average daily cost of merchandise sold (COMS 365) $ 186.3 $ 863.8 $ 29.6 Number of day s sales in inventory 29.6 40.0 105.4 c. Both the inventory turnover ratio and the number of day s sales in inventory reflect the merchandising approaches of the three companies. Costco is a club warehouse. Its approach is to hold only mass appeal items that are sold quickly off the shelf. Most items are sold in bulk quantities at very attractive prices. Costco couples thin margins with very fast inventory turnover. Walmart has a traditional discounter approach. It has attractive pricing, but the inventory moves slower than would be the case at a club warehouse. For example, many purchases made at Walmart would not be packaged in the same bulk as would be the case at Costco. JCPenney is a traditional department store with a wider assortment of goods that will not necessarily appeal to the mass market. That is, some of the merchandise items will be more specialized and unique. As such, its inventory moves slower, but at a higher price (and margin). 6-42