ACG 2021 Chapter 6 Inventories Inventory is used to indicate 1 Merchandise held for sale in the normal course of business 2 Materials in the process of production or held for production What is included in the cost of inventory Costs Transportation Import duties Insurance against losses in transit Effect of Inventory Errors on Financial Statements Any errors in the inventory count will affect both the balance sheet and the income statement Inventory could be overstated or understated Inventory Cost Flow Assumptions A major accounting issue arises with identical units of merchandise are acquired at different unit costs during a period First in first out method cost flow is in the order in which the costs were incurred Last in first out method cost flow is in the reverse order in which the costs are incurred Average cost cost flow is an average of the costs Inventory Costing Methods under a Perpetual Inventory System All merchandise increases and decreases are recorded in a manner similar to the recording or increases and decreases in cash The merchandise inventory account at the beginning of an accounting period indicates the merchandise in stock on that date Created by M Mari Fall 2007 Page 1 of 9 ACG 2021 Chapter 6 Purchases are recorded by debiting Merchandise Inventory and crediting Cash or Accounts payable On the date of each sale the cost of the merchandise sold is recorded by debiting Cost of Merchandise Sold and crediting Merchandise Inventory First in First out Method Most businesses dispose of goods in the order in which the goods are purchased Especially true of perishables and goods whose styles or models often change The FIFO method is often consistent with the physical flow or movement of merchandise Example 1 Below are inventory records for a product Date Jan 1 Jan 4 Jan 10 Jan 22 Jan 28 Jan 30 Activity Inventory Sale Purchase Sale Sale Purchase Units 100 70 80 40 20 100 Cost per unit 20 21 22 Questions 1 What is cost of merchandise sold in January under FIFO Date Jan 4 Jan 22 Jan 28 Total cost Created by M Mari Fall 2007 Page 2 of 9 Units 70 30 10 20 Cost per unit 20 20 21 21 Total Cost 1400 810 420 2630 ACG 2021 Chapter 6 2 What is the value of ending inventory on January 30 50 units 21 per unit 100 units 22 per unit Total 1050 2200 3250 Last in First out Method When the LIFO method is used in a perpetual inventory system the cost of units sold is the cost of the most recent purchases Example 2 Below are inventory records for a product Date Jan 1 Jan 4 Jan 10 Jan 22 Jan 28 Jan 30 Activity Inventory Sale Purchase Sale Sale Purchase Units 100 70 80 40 20 100 Cost per unit 20 21 22 Questions 3 What is cost of merchandise sold in January under LIFO Date Units Jan 4 Jan 22 70 40 Cost per unit 20 21 Jan 28 Total cost 20 21 4 What is the value of ending inventory on January 30 30 units 20 per unit 20 units 21 per unit 100 units 22 per unit Total Created by M Mari Fall 2007 Page 3 of 9 600 420 2200 3220 Total Cost 1400 840 420 2660 ACG 2021 Chapter 6 Average cost Method When the average cost method is used in a perpetual inventory system an average unit cost for each type of item is computed each time a purchase is made Inventory Costing Methods under a Periodic Inventory System When the periodic inventory system is used only revenue is recorded each time a sale is made No entry is made at the time of the sale to record the cost of the merchandise sold Cost of merchandise sold Merchandise inventory 1 1 Purchases Less purchases returns Purchases discounts Net purchases Add transportation in Cost of merchandise purchased Merchandise available for sale Less merchandise inventory 12 31 Cost of merchandise sold 59 700 521 980 9 100 2 525 11 625 510 355 17 400 527 755 587 455 62 150 525 305 First in First out Method A physical inventory is conducted at the end of the year Start at the beginning of year to calculate cost of merchandise sold Example 3 Units Jan 1 Mar 10 Sept 21 Nov 18 Inventory Purchase 200 300 400 100 Total available for sale At end of year 300 units still in inventory Created by M Mari Fall 2007 Page 4 of 9 Unit cost 9 10 11 12 Total cost 1 800 3 000 4 400 1 200 ACG 2021 Chapter 6 Under FIFO method compute cost of merchandise sold and cost of ending inventory Cost of merchandise sold Total available for sale Ending inventory Units sold 1 000 300 700 FIFO Jan 1 Mar 10 Sept 21 Nov 18 Inventory Purchase Units 200 300 200 Cost per unit Total cost 9 1 800 10 3 000 11 2 200 Cost of 700 merchandise sold 7 000 Value of ending inventory Total cost Cost of merchandise sold 10 400 7000 3 400 Example 4 Under FIFO method compute cost of merchandise sold and cost of ending inventory Units Jan 1 Mar 10 Sept 21 Nov 18 Inventory Purchase Total available for sale 150 220 300 250 920 At end of year 120 units still in inventory Created by M Mari Fall 2007 Page 5 of 9 Unit cost 5 6 7 7 Total cost 750 1320 2100 1750 5920 ACG 2021 Chapter 6 Last in First out Method A physical inventory is conducted at the end of the year Calculate the cost of merchandise sold by starting at the end of the year and working forward Example 5 Units Jan 1 Mar 10 Sept 21 Nov 18 Inventory Purchase 200 300 400 100 Unit cost 9 10 11 12 Total cost 1 800 3 000 4 400 1 200 Total available for sale 1 000 10 400 At end of year 300 units still in inventory Under LIFO method compute cost of merchandise sold and cost of ending inventory Cost of merchandise sold Total available for sale 1 000 Ending inventory 300 Units sold 700 Nov 18 Purchase Purchase Units 100 400 200 Cost of 700 merchandise sold Cost per unit Total cost 12 1 200 11 4 400 10 2 000 7 600 Value of ending inventory Total cost Cost of merchandise sold 10 400 7 600 2 800 Created by M Mari Fall 2007 Page 6 of 9 ACG 2021 Chapter 6 Example 6 Under LIFO method compute cost of merchandise sold and cost of ending inventory Units Unit cost Total cost Jan 1 Inventory 150 5 750 Mar 10 Purchase 220 6 1320 Sept 21 300 7 2100 Nov 18 250 7 1750 Total available for sale 920 5920 At end of year 120 units still in inventory Average Cost Method A physical inventory is conducted at the end of the year Calculate the cost of merchandise sold by getting an average of the cost and multiplying by the number of units in ending inventory Example …