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Chapter 5

Chapter 5. Inventory. Chapter 5: Objectives. Account for common inventory transactions. Use the four major inventory costing methods to calculate ending inventory and cost of goods sold. Apply the lower-of-cost-or-market rule to inventory.

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Chapter 5

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  1. Chapter 5 Inventory Chapter 5

  2. Chapter 5: Objectives • Account for common inventory transactions. • Use the four major inventory costing methods to calculate ending inventory and cost of goods sold. • Apply the lower-of-cost-or-market rule to inventory. • Determine the effects of inventory errors on the financial statements. • Use ratios and other analysis techniques to make decisions about inventory. Chapter 5

  3. Periodic Uses Temporary accounts for purchases, freight, etc. Does not keep track of the Cost of Goods Sold during the period. Inventory levels are determined solely by ending physical count. Perpetual Uses the inventory account for all transactions. Keeps a running balance in the Cost of Goods Sold account. Inventory balance is kept current throughout the period and adjusted based on a physical count. Comparison of Methods Chapter 5

  4. Inventory Accounting Terms • Sales • Sales Returns and Allowances • Sales Discounts • Purchase Returns and Allowances • Purchase Discounts • Freight-In • Delivery Expense(Freight-out) • Cost of Goods Sold Chapter 5

  5. Shipping Terms FOB Shipping Point: Buyerpays to get the goods to the destination. FOB Destination: Seller pays to get the goods to the destination. Chapter 5

  6. Inventory Cost Flow Methods • Specific Identification • First In First Out • Last In First Out • Weighted Average Chapter 5

  7. Cost Flow Example The operations of University Bookstore are used to explore the topic of inventory costing. Following are inventory data for January for a Principles of Marketing textbook. The text is a paperback version and, thus, there are no used copies of the text available for sale. To simplify the example, it is assumed that University Bookstore is only open two days in January; all sales, therefore, occur on those two days. 1/ 1 Beginning inventory 100 copies @ $30 each $ 3,000 1/ 8 Purchased 400 copies @ $35 each 14,000 1/14 Sold 360 copies 1/18 Purchased 70 copies @ $39 each 2,730 1/22 Sold 180 copies Chapter 5

  8. Item: Principles of Marketing, Perpetual Inventory Record, FIFO Method Purchases Sold Balance Date # Unit Cost Total # Unit Cost Total # Unit Cost Balance Jan. 1 100 $30 $3,000 Jan. 8 400 $35 14,000 100 400 500 $30 35 $ 3,000 14,000 $17,000 Jan. 17 100 260 $30 35 $3,000 $9,100 140 $35 $4,900 Jan. 18 70 $39 $2,730 140 70 210 $35 39 $4,900 2,730 $7,630 Jan. 22 140 40 $35 39 $4,900$1,560 30 $39 $1,170 Chapter 5

  9. Item: Principles of Marketing, Perpetual LIFO Purchases Sold Balance Date # Unit Cost Total # Unit Cost Total # Unit Cost Balance Jan. 1 100 $30 $3,000 Jan. 8 400 $35 $14,000  100 400 500 $30 35  $ 3,000 14,000 $17,000 Jan. 17 360 $35 $12,600 100 40 $30 35 $ 3,000 1,400 $4,400 Jan. 18 70 $39 $2,730 100 40 70 210  $30 35 39 $3,000 1,400 2,730 $7,130 Jan. 22 70 40 70 $39 35 30 $2,730 1,400 2,100  30  $30 $ 900 Chapter 5

  10. Item: Principles of Marketing, Perpetual Inventory Record, Moving Average Method Purchases Sold Balance Date # Unit Cost Total # Unit Cost Total # Unit Cost Balance Jan. 1 100 $30 $ 3,000 Jan. 8 400 $35 $14,000 500 $17,000 Jan. 17 360 $34 $12,240 140 $34 $ 4,760 Jan. 18 70 $39 $2,730 210 $ 7,490 Jan. 22 180 $35.67 $6,420 30 $35.67 $ 1,070 Chapter 5

  11. Cost Flow Gross Profit and Inventory AmountsEXHIBIT 5-6 SpecificWeighted Identification FIFO LIFO Average Sales ($540 @ $50) $27,000 $27,000 $27,000 $27,000 Cost of Goods Sold 18,690 18,56018,83018,860 Gross Profit $ 8,310$ 8,440 8,170 8,140 Inventory, 1/31 $ 1,040$ 1,170$ 900 $ 1,070 Chapter 5

  12. Lower of Cost or Market Total Market 540 340 1000 560 2440 Replacement Cost 18 17 20 14 Total Cost 420 480 750 720 2370* LCM 420 340 750 560 2070** ITEM 727 Jeans 757 Jeans Tank tops Pullovers Quantity 30 20 50 40 Unit Cost 14 24 15 18 *Applying LCM on a total inventory basis **Applying LCM on an Item by Item basis Chapter 5

  13. Chapter 5

  14. Relevant Ratios Inventory Turnover Ratio = Cost of Goods Sold ÷ Average Inventory The inventory turnover ratio indicates the number of times that a company sells or "turns over" its inventory each year. Age of Inventory = 360 days ÷ Inventory Turnover Ratio Inventory age indicates the average period required to sell an item of inventory. Chapter 5

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