Chapter 6. Learning Objectives. Account for inventory by the FIFO, LIFO and average cost methods. Objective 1. Retail Inventory

Transcription

1 PowerPoint to accompany Chapter 6 Retail Inventory Learning Objectives 1. Account for inventory by the FIFO, LIFO and average cost methods. 2. Compare the effects of FIFO, LIFO and average cost. 3. Apply accounting principles to inventory measurement and disclosure. 4. Measure the effects of inventory errors. 5. Estimate ending inventory by the gross profit and retail inventory methods. Objective 1 Account for inventory by the FIFO, LIFO and average cost methods

2 Methods of Estimating Inventory Specific unit cost Mandated by AASB when inventory items differ (e.g. motor vehicles, jewellery) Average cost First-In, First-Out (FIFO) Oldest units sold first Last-In, First-Out (LIFO): Newest units sold first Not allowed in Australia under AIFRS Commonly used in US, and by some Australian subsidiaries of US companies to report to head office. s transactions Nov (p. 254) Perpetual System FIFO Example Date Quan Purchases of Sales Inventory on Hand Quan Quan

3 Journal Entries FIFO 5 Inventory 270 Accounts Payable Accounts Receivable (4 x $80) 320 Sales Revenue of sales ($ ) 175 Inventory Inventory 350 Accounts Payable Accounts Receivable (8 x $80) 640 Sales Revenue of sales ($135 + $250) 385 Inventory 385 Perpetual System LIFO Example Date Qua n Purchases of Sales Inventory on Hand Qua n Qua n Journal Entries LIFO 5 Inventory 270 Accounts Payable Accounts Receivable (4 x 80) 320 Sales Revenue of sales (4 x 45) 180 Inventory Inventory 350 Accounts Payable Accounts Receivable (8 x 80) 640 Sales Revenue of sales ( ) 395 Inventory 395

4 Perpetual System Average- Example Date Quan Purchases of Sales Inventory on Hand Quan Quan Journal Entries Average 5 Inventory 270 Accounts Payable Accounts Receivable (4 x 80) 320 Sales Revenue of sales (4 x 44.29) 177 Inventory Inventory 350 Accounts Payable Accounts Receivable (8 x 80) 640 Sales Revenue of sales (8 x 48.30) 386 Inventory 386 Objective 2 Compare the effects of FIFO, LIFO and average cost.

5 Comparison of Methods Ending Inventory FIFO $100 LIFO $85 Weighted-average $97 Comparison of Methods of Sales FIFO $560 LIFO $575 Weighted-average $563 Comparison of Methods Gross Profit from Sales (selling price $50): FIFO $ 400 LIFO $ 385 Weighted-average $ 397 When prices are rising LIFO produces the lowest income and lowest income tax.

6 Appendix Calculate periodic inventory amounts under FIFO, LIFO and average cost. Purchase of Inventory January Purchases (not inventory) 400 Accounts Payable (Cash) 400 FIFO Beginning Inventory 40) $40 Purchases ) 620 of goods available for sale (14) 660 Less: Ending Inventory 50) (100) of Sales $ Accounts Receivable (4*80) 320 Sales Revenue 320

7 LIFO Beginning Inventory 40) $40 Purchases ) 620 of goods available for sale (14) 660 Less: Ending Inventory (85) ) of Sales $575 Weighted Average Beginning Inventory 40) $40 Purchases ) 620 of goods available for sale ) Less: Ending Inventory 47.14) (94) of Sales $566 Objective 3 Apply accounting principles to inventory measurement and disclosure.

8 Principles of Disclosure Relevance Need to disclose method or methods used Comparability Need to consistently use the same method(s) from one period to the next Materiality Report information that is significant Accounting Principles: Conservatism Err on the side of caution when reporting any item in the financial statements. Lower-of--and-N-R-V An asset is reported at the lower of its historical cost or market (replacement) value. If the replacement cost falls below its historical cost, the business must write down the value of its inventory.

9 Lower-of--and-N-R-V Example of inventory: $3,000. Market value at balance sheet date: $2,200. What is the journal entry? June 30 Loss on Inventory (or COGS) 800 Inventory 800 Write down inventory to LCNRV Objective 4 Measure the effects of inventory errors. Inventory Errors If inventory is calculated incorrectly, how many years of financial statements will it affect? Two years. The current year s ending inventory is next year s beginning inventory.

10 Inventory Errors Example If ending inventory is overstated by $10,000: This year s profits will be $10,000 higher: of goods available for sale less ending inventory = COGS The higher ending inventory the lower COGS. Next year s profits will be lower: Higher beginning inventory the higher COGS. Ethical Issues By overstating ending inventory: COGS lower Profits higher Assets and Owner s Equity higher. By hiding inventory and claiming it has been sold: COGS is higher but Sales are much higher. Profits are higher. Objective 5 Estimate ending inventory by the gross profit and retail inventory methods.

11 Gross Profit Method Example Using estimated gross profit margin we can calculate estimated cost of sales Net Sales $100,000 Gross Profit of.40 40,000 = of Goods Sold $60,000 Gross Profit Method Example Beginning Inventory $14,000 Net + Purchases $66,000 = of Goods Available for Sale $80,000 of Goods Sold $60,000 = Ending Inventory $20,000 Retail Inventory Method Businesses with high turnover, low cost inventory, AASB 102 allows the use of the retail inventory method. Like the gross profit method it is based on the COGS model. Requires the recording of inventory purchases at cost and at retail (selling) price. See exhibit 6-11 page 265 of your textbook.

12 PowerPoint to accompany End of Chapter 6