Covington Mattress buys mattresses from Simpson Manufacturing. Covington purchased mattresses from Simpson on August 16 and received an invoice for $12,000 with payment terms of 2/10, n/30. Covington uses the gross method to record purchases. Covington should record the purchase at:

a.$11,880

b.$11,760

c.$12,000

d.$12,240

C

Fulbright Corp. uses the periodic inventory system. During its first year of operations, Fulbright made the following purchases (listed in chronological order of acquisition):

160 units at $50
280 units at $40
680 units at $30

Sales for the year totaled 1,080 units, leaving 40 units on hand at the end of the year. Ending inventory using the FIFO method is:

a.$1,300

b.$2,000

c.$1,414

d.$1,200

D

Fulbright Corp. uses the periodic inventory system. During its first year of operations, Fulbright made the following purchases (listed in chronological order of acquisition):

160 units at $50
280 units at $40
680 units at $30

Sales for the year totaled 1,080 units, leaving 40 units on hand at the end of the year. Ending inventory using the LIFO method is:

a.$1,300

b.$2,000

c.$1,414

d.$1,200

B

Which of these is not a factor that motivates companies to choose one method over the other?

a.How closely reported costs reflect the actual physical flow of inventory

b.The timing of reported income and income tax expense

c.How well costs are matched with associated revenues

d.To make it easier for managers to maximize their own personal benefits rather than those of the company or its external constituents

D

Doyle Corp. adopted the LIFO inventory method in 2021, its first year. Doyle disclosed that if FIFO had been used, inventory at the end of 2021 would have been $36 million higher than the inventory determined using the LIFO method. Assuming Doyle’s income tax rate is 40%:

a.Its reported cost of goods sold for 2021 would have been $21.6 million higher if it had used FIFO rather than LIFO for its financial statements

b.Its reported net income for 2021 would have been $21.6 million higher if it had used FIFO rather than LIFO for its financial statements

c.Its reported net income for 2021 would have been $36 million higher if it had used FIFO rather than LIFO for its financial statements

d.Its reported cost of goods sold for 2021 would have been $36 million higher if it had used FIFO rather than LIFO for its financial statements

B

For its 2021 fiscal year, the Hendricks Chemical Company reported sales of $3,500,000, cost of goods sold of $1,400,000, and net income of $140,000. The company’s gross profit ratio for the year is:

a.60%

b.40%

c.4%

d.None of these answers is correct

A

Granger Clothing reported the following in its 2021 financial statements:

Sales $1,050,000

Cost of goods sold:

Inventory, January 1 $ 205,000

Net purchases 640,000

Cost of goods available for sale 845,000

Inventory, December 31 215,000

Cost of goods sold 630,000

Gross profit $ 420,000

Granger’s 2021 inventory turnover ratio is:

a.2.93

b.5.00

c.3.00

d.2.00

C

On December 31, 2021, the Burroughs Company adopted the dollar-value LIFO inventory method. Inventory at the end of 2021 for its only inventory pool was $600,000. At the end of 2022, inventory at year-end cost is $806,400 and the cost index is 1.05. Inventory at the end of 2022 at dollar-value LIFO cost is:

a.$750,000

b.$768,000

c.$806,400

d.$776,400

D

The following information pertains to one item of inventory of the Forge Company:

Per unit

Cost $270

Replacement cost 225

Selling price 292

Costs to sell 52

Applying the lower of cost or net realizable value rule, this item should be valued at:

a.$225

b.$240

c.$270

d.$292

B

Which of the following statements is not true concerning using lower of cost or net realizable value for U.S. GAAP and IFRS purposes?

a.U.S. GAAP allows for reversals of inventory write-downs if circumstances indicate the write-down is no longer appropriate

b.U.S. GAAP allows the LCNRV rule to be applied to individual items, categories, or entire inventory

c.IFRS requires LCNRV be applied to individual items except in certain circumstances

d.IFRS allows for reversals of inventory write-downs if circumstances indicate the write-down is no longer appropriate

A

The following information pertains to one item of inventory of the Forge Company:

Per unit

Cost $270

Replacement cost 225

Selling price 292

Costs to sell 52

Normal profit margin 31

Applying the lower of cost or market rule, this item should be valued at:

a.$225

b.$240

c.$270

d.$292

A

The records of Oregon Timber, Inc., revealed the following information related to inventory destroyed in a fire:

Inventory, beginning of period $ 900,000

Purchases to date of fire 480,000

Net sales to date of fire 1,350,000

Gross profit ratio 30%

The estimated amount of inventory destroyed by the fire is:

a.$975,000

b.$ 30,000

c.$435,000

d.All of these answer choices are incorrect

C

The Bowden Company uses the retail inventory method. The following information is available for the year:

Cost Retail

Inventory (beginning of year) $ 780,000 $ 1,300,000

Net purchases for the year 2,804,000 3,670,000

Net markups 150,000

Net markdowns (90,000)

Net sales 3,690,000

Applying the average cost retail inventory method, Bowden’s inventory at the end of the year is estimated at:

a.$954,784

b.$790,318

c.$938,000

d.$810,700

A

The Bowden Company uses the retail inventory method. The following information is available for the year:

Cost Retail

Inventory (beginning of year) $ 780,000 $ 1,300,000

Net purchases for the year 2,804,000 3,670,000

Net markups 150,000

Net markdowns (90,000)

Net sales 3,690,000

Applying the conventional retail inventory method, Bowden’s inventory at the end of the year is estimated at:

a.$954,784

b.$790,318

c.$938,000

d.$810,700

C

On January 1, 2021, the Bowden Corporation adopted the dollar-value LIFO retail inventory method. Below is information related to inventory:

Cost Retail

Beginning inventory $ 60,000 $ 94,000

Purchases during the year 201,500 310,000

Annual net sales 300,000

The retail price index at the end of 2021 was 1.04. Ending inventory at dollar-value LIFO cost is:

a.$ 65,000

b.$ 67,600

c.$ 64,056

d.$100,000

C

In 2021, the Beldre Company switched its inventory method from average cost to FIFO. Inventories at the end of 2020 were reported in the balance sheet at $55 million. If the FIFO method had been used, 2020 ending inventory would have been $50 million. Ignoring the effect of income taxes, the adjustment to 2021’s beginning retained earnings would be:

a.$0

b.$50 million increase

c.$5 million increase

d.$5 million decrease

D

Hightower Co. uses a periodic inventory system. Beginning inventory on January 1, 2021, was overstated by $49,000, and ending inventory on December 31, 2021, was understated by $79,000. These errors were not discovered until 2022. As a result, Hightower’s cost of goods sold for 2021 was:

a.Understated by $128,000

b.Overstated by $128,000

c.Overstated by $30,000

d.Understated by $30,000

B

On August 15, 2021, Pesky Corporation signed a purchase commitment to purchase inventory for $300,000 on or before February 20, 2022. Pesky’s fiscal year-end is December 31. The contract was exercised on February 3, 2022, and the inventory was purchased for cash at the contract price. On the purchase date of February 3, the market price of the inventory was $315,000. The market price of the inventory on December 31, 2021, was $270,000. The company uses a perpetual inventory system.

How much loss on purchase commitment will Pesky recognize in 2021?

a.$45,000

b.$30,000

c.$15,000

d.None

B

Inventory refers to assets that are:

intended to sell

in production for sale

used in production of goods to be sold

What is merchandising inventory?

goods that are purchased that go from wholesaler to retailer.

What costs does merchandising inventory include?

purchase price plus any cost necessary to reach place it will be sold at.

What is manufacturing inventory?

goods that are produced to be sold to anyone.

What does manufacturing inventory include?

raw materials, works in progress, and finished goods.

Overhead includes

utility costs, depreciation, and anything else that cannot be directly traced.

Are raw materials, works in progress, and finished goods disclosed?

Yes.

What is a perpetual inventory system?

it continually adjusts inventory if there is a change in: purchase, sale, and return and continually adjusts COGS if there is a change in: sale and returns.

What is a periodic inventory system?

adjusts inventory and COGS at end of each reporting period.

How does a periodic inventory system determine COGS?

Beg Inv+ Net purchases= goods available for sale - ending inventory= COGS

A perpetual inventory system allows management to:

know goods on hand at any date and know # of items sold during a period

A periodic inventory system records:

purchases, returns, discounts, and freight in.

A perpetual inventory system tracks:

inventory quantity and cost.

A periodic inventory system tracks only:

quantities

Which one is more expensive, perpetual or periodic inventory system?

Perpetual

Whats the journal entry to adjust inventory, close purchases and COGS?

Debit: COGS

Inventory (ending)

Credit: Inventory (beginning)

Purchases

What are the physical units in inventory?

items in possession of company, goods in transit, goods on consignment, and anticipated sales returns.

The goods in transit depend on

ownership of goods.

Describe FOB Shipping Point.

Title is transferred at shipping point when seller hands goods over at Fedex (example)

Who is responsible for shipping costs at FOB Shipping Point?

Buyer

Describe FOB destination

title is transferred when goods are delivered

Who is responsible for shipping costs at FOB destination?

Seller

Describe goods on consginment.

Transferor has legal title (consignor) and transfer goods to the consignee to sell.

If no one buys the goods on consignment:

goods are returned to consignor.

If someone does buy the goods on consignment:

selling price (less commission and expenses) is remitted to consignor.

How does inventory reporting work with goods on consignment?

Consignors hold it until consignee sells it. The only time a sale is recorded is when title transfers to third party.

Describe what happens to the accounts when a customer does make a return:

COGS decreases

Sales revenue decreases

AR decreases

Inventory increases

The COGS anticipated to be returned is included in the

ending inventory.

What affects net purchases?

Product costs like freight charges, insurance costs, and unloading & packing. But the main ones are freight costs and returns & discounts.

With freight in costs, how does it affect perpetual inventory system?

It is added to inventory account.

With freight in costs, how does it affect periodic inventory system?

Freight costs are added to temporary account called freight in then later added to purchases.

How does freight out costs affect perpetual and periodic inventory systems?

They are not included in cost of inventory, instead treated as COGS or an operating expense.

How do returns affect perpetual inventory system?

Reduces inventory and AP.

If its cash, it would increase cash.

How do returns affect periodic inventory system?

purchase returns account accumulates all returns. The returns are subtracted from total purchases to calculate net purchases.

When it comes to discounts, what accounts do periodic and perpetual systems use?

periodic uses purchases account and perpetual uses inventory account.

Example of gross method that made discount:

AP debited

Inventory and cash credited

Example of gross method that did not make discount:

AP debited

Cash credited

Example of net method that made discount:

AP debited

Cash credited

Example of net method that did not make discount:

AP and discounts lost debited

Cash credited

We know beginning inventory plus net purchases = goods available for sale. How do we allocate this to ending inventory and COGS?

Use the specific identification method: average cost, FIFO, LIFO.

The specific identification method matches

each unit sold during period with actual cost. This assumes which units of inventory have been sold and which ones have not.

Do companies have to record actual amounts of inventory sold?

No they can record what's been assumed.

What's average cost flow assumption?

A mixture of goods available for sale.

Describe average cost flow with a periodic inventory system.

Its calculated at end of period with Cost of goods available for sale divided by # of those units.

Describe average cost flow with perpetual inventory sysem.

Its calculated each time inventory is purchased with the amount determined by summing previous inventory balances with cost of new purchase included divided by # of those units.

Describe FIFO cost flow method.

This is first in, first out. It assumes units first acquired are sold first. Ending inventory is the most recent units.

How does FIFO affect periodic and perpetual inventory systems?

They will have matching amounts.

Describe LIFO cost flow method.

This is last in, first out. It assumes units last acquired are sold first. Ending inventory is first units.

How does LIFO affect periodic and perpetual inventory systems?

They will have different amounts.

With FIFO periodic what's accounted for first then next?

COGS first then ending inventory.

For LIFO periodic what's accounted for first then next?

Ending inventory then COGS.

Where does average weighted cost fall?

In between FIFO and LIFO amounts.

During rising costs, FIFO results in

lower COGS and higher ending inventory than LIFO.

During declining costs, FIFO results in

higher COGS and lower ending inventory than LIFO.

Are these cost flow methods GAAP approved?

Yes.

Do you have to apply one cost flow method to the entire inventory?

No, but you have to disclose that.

What all is factored in decisions for a cost flow method?

Inventory cost flow assumption, depreciation method, pension assumptions, and other choices.

What type of inventories does FIFO best?

Physical flow.

What type of inventories does average cost suit best?

Mixture inventories.

When a unit cost of inventory changes, it effects

net income and amount of taxes paid.

Companies will choose LIFO when prices are rising to reduce

taxes.

When costs rise and inventory quantities remain the same:

LIFO produces higher COGS and that equals a lower net income. Lower taxable income is reported and lower taxes will be paid.

What's the LIFO confirmatory rule that the IRS requires?

If a company uses LIFO for x, then it has to use LIFO for y.

What's a LIFO reserve?

a contra account that serves as a difference between LIFO and internal records.

LIFO reserve equals

Inventory LIFO for external purposes minus inventory FIFO or average amount for internal.

What are some reasons to stay internal and not LIFO?

High record keeping costs for LIFO, bonus or profit plans that calculate net income without using LIFO, using FIFO or average for pricing decisions.

What are LIFO liquidations?

old cost is matched with current selling prices because leftover inventory is outdated.

If costs increase, LIFO liquidations will produce

higher net income

To liquidate LIFO the journal entry is:

COGS debited

LIFO reserve credited

Why are inventory levels so closely monitored?

To make sure there's enough available to sustain operations and to keep costs low.

What are the conflicts with maintaining inventory levels?

It can be expensive to hold inventory and customer demand can get high.

What are some tools to balance inventory levels?

computerized systems, outsourcing, and JIT.

What is JIT?

where the manufacturer will coordinate with supplier who immediately acquires raw materials to start production process.

What are the advantages with JIT system?

Low inventory balance to maintain and customers demands are quickly met.

What are two ratios used to monitor inventory?

Gross profit and inventory turnover.

Whats the formula for gross profit?

Gross profit divided net sales.

What does gross profit ratio measure?

how much of each sales dollar is available to cover expenses (excluding COGS) to still make a profit.

The higher the gross profit ratio,

the higher the markup achieved.

A declining gross profit ratio means

company is unable to offset rising costs with corresponding increases in selling prices and sales prices are declining without a commensurate reduction in costs.

Whats the formula for inventory turnover

COGS divided by average inventory

What does inventory turnover ratio measure

number of times average inventory balance is sold in a period

The higher the inventory turnover ratio, the

more efficiently a company manages inventory

What are some techniques to simplify LIFO?

LIFO inventory pools and dollar value LIFO method

What is LIFO inventory pooling?

Putting inventory units together based on physical similarities. Purchases are considered to be made at same time at the same cost.

In LIFO inventory pooling, individual unit costs are converted to

an average cost.

If quantity of ending inventory pool increases,

the beginning inventory is added to the single layer added during period at the average cost of its pool

What is dollar value LIFO?

A comprise of layers of dollar values from different years. Instead of physical qualities, then are grouped based on economic similarities.

What do you use to apply dollar value LIFO?

A cost index that will deflate inventory amounts by any increase in prices so beginning inventory and ending inventory are measured at same price level.

Formula for cost index in layer year is

cost in layer year divided by cost in base year

What are the steps to setting up a DVLIFO:

1) Convert ending inventory to base year costs (ending inventory divided by cost index)

2) identify layers of ending inventory created each year (#1's amount minus beginning inventory)

3) Restate each layer using cost index (beginning amount times CI plus #2 layer amount times CI)

What are some advantages with DVLIFO?

simplifies record keeping, minimizes probability of liquidation of LIFO inventory layers, acquisition of new items is viewed as replacement of dollar value of old items.

Is LIFO acceptable for IFRS?

No.

What are some reasons a company would sell inventory for less than the cost?

damage, physical deterioration, obsolescence, changes in price levels

When a company sells inventory for less than the cost what does this call for?

An inventory write down.

What does an inventory write down do?

Reduces inventory and net income.

What are the two options to do an inventory write down?

Lower of cost or net realizable value (LCNRV) or lower of cost or market (LCM)

LCNRV is used for companies that use

FIFO, average cost, anything besides LIFO or retail inventory method

How does LCNRV affect the financial statements?

reduces inventory and reduces net income.

LCM is used for companies that use

LIFO or retail inventory method.

How does LCM affect the financial statements?

reduces inventory and reduces net income.

What's the formula for NRV?

Estimated selling price- cost of completion, disposal, and transportation

What is NRV?

The amount the company expects to collect in cash (realize) from selling inventory.

At the end of the year the company will compare cost of ending inventory to NRV. If NRV< Cost then

adjusting entry is needed to reduce inventory from its already recorded purchase cost to the lower NRV.

At the end of the year the company will compare cost of ending inventory to NRV. If NRV> Cost then

no adjusting entry is needed. Inventory will remain at recorded purchase cost.

LCNRV can be applied to:

individual items, categories, and entire inventory

The normal adjusting entry for LCNRV is:

COGS debited

Inventory credited

If the amount is large and unusual the adjusting entry for LCNRV is:

Loss debited

Who permits reversals on LCNRV, GAAP or IFRS?

IFRS.

GAAP applies LCNRV to individual items, categories and entire inventory. What does IFRS apply it to?

Normally just individual items. Sometimes categories.

By definition, whats the market?

the current replacement cost.

The market must be in between

the ceiling and the floor.

If something is the ceiling it means that

its greater than NRV.

If something is the floor it means that

its lower than NRV.

Whats the formula for market ceiling?

selling price- estimated selling costs

Whats the formula for market floor?

NRV- normal profit margin

The normal adjusting entry for LCM is

COGS debited

Inventory credited

If there is a large and unusual amount, the adjusting entry for LCM is

Loss debited

Why would someone use gross profit method to estimate inventory?

if inventory has been lost, destroyed, stolen

to avoid expense of physical count of inventory

auditors test

budgeting and forecasting

Whats the formula for gross profit method to estimate inventory?

Ending inventory

+ Net purchases

= Goods available for sale

- COGS (estimated)

= Ending Inventory (estimated)

In the gross profit method formula, what is COGS based on?

Historical net sales, COGS, and gross profit.

How do you calculate COGS in the gross profit method formula?

Net sales times gross profit %

Gross profit method is ONLY a

estimate

What are some warnings to gross profit method?

- rely on the ratio

- accuracy can help if you pool products

- cost flow should be implicit stated

- suspected theft or spoilage would require an adjustment

What is the retail inventory method perfect for?

high volume retailers selling many items at low unit prices.

Retail in retail inventory method means _____ and this finds ____.

current selling price, COGS

Whats the first step to the retail inventory method?

Estimate amount of ending inventory at retail prices.

How do you find ending inventory (at retail) in retail inventory method?

Goods available for sale (at retail) minus Sales (at retail)

After you found ending inventory (at retail) in the retail inventory method, then what do you do?

Multiply that by current cost to retail percentage to estimate ending inventory at cost.

How do you find the cost to retail percentage?

goods available for sale at cost divided by goods available for sale at retail.

What must be included in ending inventory for retail inventory method?

Net markups and net markdowns.

A markup cancellation reduces additional markup but not below

original selling price.

A markdown cancellation reduces a markdown but not above

original selling price.

Where do you include net markups and markdowns in the formula?

underneath beginning inventory

What does the conventional retail method exclude?

markdowns from cost to retail %

For the LIFO retail method, an increase in inventory results in

ending inventory that includes beginning inventory as well as additional layers

For the LIFO retail method, a decrease in inventory results in

layers liquidated

LIFO retail method assumes prices remained stable. How do they find the "layer"?

The layer is amount between beginning inventory and ending inventory. It'll either decrease or increase.

When calculating cost to retail %, freight in is

added to cost amount

When calculating cost to retail %, purchase returns is

deducted from cost and retail

When calculating cost to retail %, purchase discounts is

deducted from cost

When calculating cost to retail %, abnormal shortages is

deducted from cost and retail

After calculating cost to retail %, net sales is

deducted from goods available

After calculating cost to retail %, normal shortages is

deducted from goods available

In dollar LIFO retail method, when ending inventory is greater than beginning inventory,

a new LIFO layer is added or increase in retail prices.

Each layer in the dollar LIFO retail method carries

a retail price index and cost to retail %

In the dollar LIFO retail method, where are the layers added

to ending inventory

FIFO, average, or anything besides LIFO is changed

retrospectively

What are the steps to adjusting FIFO and average retrospectively?

1) Revise statements

2) Adjust accounts

3) Disclose notes

When you need to change to LIFO, what do you do?

Start using LIFO from that point on.

Why is changing LIFO method not retrospective?

its impossible to calculate income effects on prior years.

When you switch to LIFO, you have to include a disclose notes that will include:

nature of change, effect on income, and why retrospective is impossible

Why might there be an overstatement/understatement of ending inventory?

- mistake in physical count or pricing

- mistake in recording purchases

If you find an inventory error in the same period:

original entry is reversed and appropriate entry is recorded

If you find an inventory error in a subsequent period:

the previous years are retrospectively restated, incorrect balances are corrected, correction of RE is reported as prior period adjustment to beginning balance in SE, add disclosure note.

Inventory errors affect

COGS, net income, and RE

If beginning inventory or net purchases is overstated,

COGS is overstated

If ending inventory is overstated,

COGS is understated

If inventory error is discovered 2 years later,

no adjusting entry is required, but add disclosure note

What are purchase commitments?

Contracts that obligate company to purchase specific amount of merch at specific price on specific date

Purchase commitments protects

buyer against increase in purchase price and provides supply of product

On date of purchase commitment, inventory is recorded at

lower contract price or market price

If purchase price decreases before agreement,

loss on purchase commitment is recorded