ACCT 221-Inventories

Weighted Average Cost

- the cost of the units sold and in ending inventory is a weighted average of the purchase costs. -when used in a perpetual system, an average unit cost for each item is computed each time a purchase is made. This unit cost is then used to determine the cost of each sale until another purchase is made and a new average is computed (Moving average) -uses the weighted average unit cost for determining cost of merchandise sold and the ending merchandise inventory.

Last-In, First-Out (LIFO)

- the last units purchased are assumed to be sold first and the ending inventory is made up of the first units purchased. -the most recent batch purchased is considered the first batch of merchandise sold. The actual flow of goods does not have to be LIFO. For example, a store selling fresh fish would want to sell the oldest fish first (which is FIFO), even though LIFO is used for accounting purposes.

Reporting Merch Inventory

-Cost is the primary basis for valuing and reporting inventories in the financial statements. However, inventory may be valued at other than cost in the following cases: -The cost of replacing items in inventory is below the recorded cost. -The inventory cannot be sold at normal prices due to imperfections, style changes, or other causes.

Valuation at Lower of Cost or Market

-Market, as used in lower-of-cost-or-market method, is the cost to replace the merchandise on the inventory date. -Cost and replacement cost can be determined for the following: - Each item in the inventory - Each major class or category of inventory -Total inventory as a whole

Net Realizable value

-Merchandise that is out of date, spoiled, or damaged should be written down as this. - The estimated selling price less any direct costs of disposal, such as sales commissions or special advertising. - Net Realizable = Estimated Selling Price - Direct Costs of Disposal

Safeguarding Inventory

-The receiving report establishes an initial record of the receipt of the inventory. -Recording inventory using a perpetual inventory system is also an effective means of control. The amount of inventory is always available in the subsidiary inventory ledger. -Controls for safeguarding inventory should include security measures to prevent damage and customer or employee theft.

WAC

-The weighted average cost method of inventory costing is a compromise between FIFO and LIFO. Net income for the weighted average cost method is somewhere between the net incomes of LIFO and FIFO.

Cost Flow Assumption

-Under the specific identification inventory cost flow method, the unit sold is identified with a specific purchase.

Merchandise Inventory on the Balance Sheet

-Usually presented in the Current Assests section of the balance sheet, following receivables. - The method of determining the cost of the inventory (FIFO, LIFO, weighted avg) and the method of valuing the inventory (cost or the lower of cost or market) should be shown

FIFO

-When the FIFO method is used during a period of inflation or rising prices, FIFO will show a larger profit than the other two inventory costing methods.

LIFO

-When the LIFO method is used during a period of inflation or rising prices, LIFO will show a lower profit than the other two inventory costing methods. -During a period of rising prices, using LIFO offers an income tax savings compared to the other two inventory costing methods.

Moving average

-a unit cost is used to determine the cost of each sale until another purchase is made and a new average is computed. -an averaging technique

Inventory Turnover

-measures the relationship between cost of merchandise sold and the amount of inventory carried during the period. - Inventory turnover = Cost of merchandise sold / Average Inventory

First-In, First-Out (FIFO)

-the first units purchase are assumed to be sold first and the ending inventory is made up of the most recent purchases. - the earliest batch purchased is considered the first batch of merchandise sold. The physical flow does not have to match the accounting method chosen.

Two primary objectives of control over inventory are:

1. Safeguarding the inventory from damage or theft 2. Reporting inventory in the financial statements

Beginning inventory is overstated...

Cost of merch sold > Overstated Gross Profit >Understated Net Income >Understated

Beginning inventory is understated...

Cost of merch sold: >Understated Gross Profit > Overstated Net Income >Overstated

Purchase order

authorizes the purchase of the inventory from an approved vendor

Ending inventory is understated...

*Income Statement Effect: Cost of merch sold >Overstated Gross profit >Understated Net Income >Understated *Balance sheet effect: Merchandise Inventory >Understated Current Assets >Understated Total Assets >Understated Owner's Equity(Cap) >Understated

Ending inventory is Overstated...

*Income Statement Effect: Cost of merch sold >Understated Gross profit >Overstated Net Income >Overstated *Balance sheet effect: Merchandise Inventory >Overstated Current Assets >Overstated Total Assets >Overstated Owner's Equity(Cap) >Overstated

Cosigned inventory

- Manufacturers sometimes ship merchandise to retailers who act as the manufacturer's agent. -The manufacturer (Consignor) retains title until the goods are sold. Such merch is said to be shipped on consignment to the retailer (consignee)

Inventory Errors

- Some reasons: >physical inventory on hand was miscounted > Costs were incorrectly assigned to inventory > Inventory in transit was incorrectly included or excluded from inventory > Cosigned inventory was incorrectly included or excluded from inventory -often arise from cosigned inventory

Number of Days' Sales in Inventory

- measures the length of time it takes to acquire, sell, and replace the inventory - Number of Days' sales in inventory = average inventory / average daily cost of merchandise sold

Reporting Inventory

A physical inventory or count of inventory should be taken near year-end to make sure that the quantity of inventory reported in the financial statements is accurate.

Cost Flow Assumption

FIFO: Cost flow is in the order in which the costs were incurred LIFO: Cost flow is in the reverse order in which the costs were incurred Weighted Avg Cost: Cost flow is an average of the costs