Acct 230 1st Edition Lecture 19 Outline of Last Lecture I Inventory and Cost of Goods Sold a Understanding Inventory and Cost of Goods Sold Outline of Current Lecture II Inventory and Cost of Goods Sold a Recording Inventory Transactions Current Lecture III Recording Inventory Transactions a Record inventory transactions using a perpetual inventory system i Recall that from January 1 through December 31 Mario sold 800 games Now let s modify the example by giving exact dates for the sale of the 800 games 300 on July 17 and 500 on December 15 The exhibit shows the order of inventory transactions for Mario s Game Shop including the total cost of the inventory and the total revenue from the sale of the 800 games ii Inventory Purchases 1 To record the purchase of new inventory we debit inventory an asset to show that the company s balance of this asset account has increased At the same time if the purchase was paid in cash we credit cash Or more likely if the company made the purchase on account we credit accounts payable increasing total liabilities iii Inventory Sales 1 We make two entries to record the sale 2 The first entry shows an increase to the asset account in this case Accounts Receivable and an increase in sales revenue 3 The second entry adjusts the Inventory and Cost of Goods Sold accounts iv Other inventory transactions 1 On October 19 Mario purchased 600 additional units of inventory for 6 600 on account These notes represent a detailed interpretation of the professor s lecture GradeBuddy is best used as a supplement to your own notes not as a substitute 2 On December 15 Mario sold another 500 units for 15 each on account Again we make two entries to record the sale 3 The first increases Accounts Receivable and Sales Revenue 7 500 500 units x 15 The second adjusts the Cost of Goods Sold and Inventory accounts 5 300 100 units x 9 400 units x 11 4 After recording all purchases and sales of inventory for the year we can determine the ending balance of inventory by examining the postings to the ledger account Thus Mario s ending inventory is 2 200 as shown in the inventory ledger account v Simple Adjustment from FIFO to LIFO 1 In practice virtually all companies maintain their own inventory records using the FIFO assumption because that s how they typically sell their actual inventory However as discussed earlier for preparing financial statements many companies choose to report their inventory using the LIFO assumption So how does a company adjust its own inventory records maintained on a FIFO basis to LIFO basis for preparing financial statements The adjustment is referred to as the LIFO adjustment and you ll see that this involves a very simple adjustment 2 In rare situations where the LIFO ending inventory balance is greater than the FIFO inventory balance such as when inventory costs are declining the entry for the LIFO adjustment would be reverse 3 The inventory ledger account for Mario s Game Shop after the LIFO adjustment Notice that the balance of inventory has decreased to reflect the amount reported under the LIFO method vi Additional Inventory Transactions Freight Charges 1 Freight Charges A significant cost associated with inventory for most merchandising companies includes freight also called shipping charges This includes the cost of shipments of inventory from suppliers as well as the cost of shipments to customers 2 When goods are shipped they are shipped with terms FOB shipping point or FOB destination FOB stands for free on board and indicates when title ownership passes from the seller to the buyer 3 FOB shipping point means title passes when the seller ships the inventory not when the buyer receives it The fact that a buyer does not have actual physical possession of the inventory does not prevent 4 transfer of title to the buyer s inventory In contrast if the seller ships the inventory 5 FOB destination then title does not transfer to the buyer when the inventory is shipped The buyer would not record the purchase transaction until the shipped inventory reached its destination the buyer s location vii Additional Inventory Transactions Purchase Discounts 1 Purchase Discounts Discounts received for prompt payment of within a certain period is known as Purchase discounts 2 Purchase discounts allow buyers to trim a portion of the cost of the purchase in exchange for payment within a certain period of time 3 Buyers are not required to take purchase discounts but many find it advantageous to do so 4 Purchase discounts allow buyers to trim a portion of the cost of the purchase in exchange for payment within a certain period of time Buyers are not required to take purchase discounts but many find it advantageous to do so 5 Just as freight charges add to the cost of inventory and therefore increase the cost of goods sold once those items are sold purchase discounts subtract from the cost of inventory and therefore reduce cost of goods sold once those items are sold viii Additional Inventory Transactions Purchase Returns 1 Purchase Returns Occasionally a company will find inventory items to be unacceptable for some reason perhaps they are damaged or are different from what was ordered In those cases the company returns the items to the supplier and records the purchase return as a reduction in both Inventory and Accounts Payable b Prepare a multiple step income statement i Mario sold 800 units during the year for 15 each or 12 000 total This amount is reported as net sales From net sales we subtract the cost of the 800 8 046 units sold The difference between net sales of inventory and the cost of that inventory is the company s gross profit Mario s gross profit is 3 954 ii After gross profit we see that the next item reported is selling general and administrative expenses often referred to as operating expenses We discussed several types of operating expenses in earlier chapters wages utilities advertising supplies rent insurance and bad debts These costs are normal for operating most companies Gross profit reduced by these operating expenses is referred to as operating income or sometimes referred to as income from operations iii After operating income a company reports nonoperating revenues and expenses Nonoperating revenues and expenses arise from activities that are not part of the company s primary operations Interest revenue and interest expense are examples In Chapter 7 we will discuss another common nonoperating item gains and losses on the sale of long