Accounting Exam 4
declining balance rate
(2) x (1/useful life)
how do you find the rate of depletion
(capitalized cost - estimated cost) / estimated value
depreciation cost per unit formula
(cost - residual value) / expected usage of the asset (in units)
straight-line depreciation expense
(cost-residual value)/useful life
raw materials inventory
-The basic ingredients used to make a product. -When these raw materials are purchased, the Raw Materials Inventory account is increased. -As raw materials are used to manufacture a product, they become part of work-in-process inventory.
Finished goods inventory
-The cost of the final product that is available for sale. -When the finished goods inventory is sold to a customer, it becomes an expense called cost of goods sold, which appears on the income statement.
Work-in-process inventory
-The raw materials that are used in production as well as other production costs such as labor and utilities. --These costs stay in this account until the product is complete. -Once the production process is complete, these costs are moved to the Finished Goods Inventory account.
what does the first journal entry of sales transaction record?
-cash/accounts receivable -sales revenue
what does the second journal entry of sales transaction record?
-cost of goods sold -inventory
cost of goods sold
-expense that represents the outflow of resources caused by the sale of inventory -the most important expense on the income statement of companies that sell goods instead of services
When there is rising purchase prices FIFO produces....
-highest ending inventory -lowest cost of goods sold -highest income
what is recorded when recording the purchases of inventory
-inventory -cash/accounts receivable
When there is rising purchase prices LIFO produces....
-lowest ending inventory -highest cost of goods sold -lowest income
straight-line rate
1/useful life
Property, plant, and equipment (PP&E)
Often called fixed assets or plant assets, are operating assets that are tangible (e.g., can be seen and touched). They include, among other things, land, land improvements, buildings, and equipment.
Average Cost Method
an inventory costing method that allocates the cost of goods available for sale between ending inventory and cost of goods sold based on a weighted average cost per unit
First-In, First-Out (FIFO)
an inventory costing system in which the earliest (oldest) purchases (the first in) are assumed to be the first sold (the first out) and the more recent purchases are in ending inventory
Last-In, First-Out (LIFO)
an inventory costing system that allocates the cost of goods available for sale between ending inventory and cost of goods sold based on the assumption that the most recent purchases (the last in) are the first to be sold (the first out)
Perpetual Inventory System
an inventory system in which balances for inventory and cost of goods sold are continually (perpetually) updated with each sale or purchase of inventory. The accounts reflect the correct inventory and cost of goods sold throughout the period.
Periodic Inventory System
an inventory system that records the cost of purchases as they occur (in an account separate from the Inventory account), takes a physical count of inventory at the end of the period, and applies the cost of goods sold model to determine the balances of ending inventory and cost of goods sold. The Inventory account reflects the correct inventory balance only at the end of each accounting period.
capital expenditures
anything new added and installation labor (extend the life of the asset)
merchandisers
companies (either retailers or wholesalers) that purchase inventory in a finished condition and hold it for resale without further processing
manufacturers
companies that buy and transform raw materials into a finished product, which is then sold
The LCNRV rule is an application of the
conservatism principle: avoids overstating the current earnings and financial strength of a company by recognizing an expense in the period that there is a decline in the selling price of inventory rather than in the period that the inventory is sold
book value formula
cost - accumulated depreciation/depreciation expense
Weighted Average Cost Per Unit
cost of goods available for sale/units available for sale in other words... total inventory ($ beginning inventory + $ purchase)/ total unites (beginning inventory units + purchase units)
what does the understatement of beginning inventory in year 2 cause
cost of goods sold to be understated and the net income to be overstated (ending inventory in year 2 will not be affected)
land costs do not include
interest charges
once a company adopts a particular costing method for an item,
it must continue to use it consistently over time
If the prices paid for goods are constant over time, how do you determine the cost of ending inventory or the cost of goods sold?
the cost per unit x the number of units on hand at year end
Natural Resources
naturally occurring materials that have economic value. They include timberlands and deposits such as coal, oil, and gravel
When there are falling purchase prices FIFO and LIFO produce...
the opposite of when purchase prices are rising
straight-line method
produces a constant amount of depreciation expense in each period of the asset's life and is consistent with a constant rate of decline in service potential
inventory represents...
products held for resale
what decreases the inventory account when recording purchases?
purchase discounts, returns, or allowances
land costs include
purchase price; real estate commissions; delinquent property taxes; closing costs; clearing and grading costs; demolition of unwanted buildings, minus any salvage
inventory balance is based on
purchases
what increases the inventory account when recording purchases?
purchases and transportation costs
ending inventory
the portion of the cost of goods available for sale that remains unsold at the end of the year
lower of cost or net realizable value (LCNRV) rule
the value at which inventory is reported under GAAP, where cost is the historical cost of the inventory and net realizable value is the estimated selling price minus the costs of disposal
if the balance due is paid to the company who sold the merchandise...
their cash will increase and accounts receivable will decrease # = selling price - price returned (including credit terms)
expected usage for the units of produced method are not recorded in years but...
units produced, hours worked, or miles driven
when do you record purchases?
when buying inventory
when do you record sales transactions?
when selling inventory
when is the inventory account affected by the credit terms?
when you pay for the purchase not when you pay for the merchandise purchased
how do you find amount of depletion
actual value x rate of depletion
revenue expenditures
expensed, performed in a year or less, do not increase the future economic benefits of the asset
what is the affect of sales revenue if an item is returned?
sales revenue is decreased for the amount of the return in credit terms (2/10, n/30)
how do you record a franchise
1. franchise (debit) and cash (credit) amount of franchise 2. amortization expense (debit) and franchise (credit) amount of franchise/years
steps of revision of depreciation
1. obtain the book value of the asset at the date of the revision 2. compute depreciation expense using the revised amounts
Depreciation, Amortization, and Depletion
As the service potential of an operating asset declines, the cost of the asset is allocated as an expense among the accounting periods in which the asset is used and benefits are received
inventory is an...
Asset
Intangible Assets
Generally result from legal and contractual rights, do not have physical substance. They include patents, copyrights, trademarks, licenses, and goodwill.
what is gross margin/profit equal to?
Gross Margin/Profit = Sales Revenue - Cost of Goods Sold
What inventory cost method will companies likely choose in periods of rising prices?
LIFO because it produces the lowest current taxable income and the lowest current income tax payment
accumulated depreciation formula for all methods
accumulated depreciation + depreciation expense (for each period after year 1)
declining balance method
accelerates the assignment of an asset's cost to depreciation expense by allocating a larger amount of cost to the early years of an asset's life. This is consistent with a decreasing rate of decline in service potential and a decreasing amount for depreciation expense. does not consider residual amount
units of production method
based on a measure of the asset's use in each period, and the periodic depreciation expense rises and falls with the asset's use. In this sense, the units-of-production depreciation method is based not on a standardized pattern of declining service potential but on a pattern tailored to the individual asset and its use
Why does FIFO result in the more realistic amount for inventory?
because it reports the most current costs, which are closer to the current market value, on the balance sheet
how do you find the cost of the natural resource
capitalized cost = amount required and any additional costs
disposal of a fixed asset journal entry
cash (debit), accumulated depreciation (debit), equipment (credit) -sometimes add loss or gain of disposal if cash is not full amount
declining balance depreciation expense
declining balance rate x book value
what is the affect on inventory if an item is returned?
decrease the cost of goods sold and increase inventory -both equal to the original cost
units of production depreciation
depreciation cost per unit x actual usage of the asset
amount of depreciation is recorded by
depreciation expense (debit) and accumulated depreciation (credit)
Inventory Costing Method
determines how costs are allocated to the cost of goods sold and ending inventory
Specific Identification
determines the cost of ending inventory and the cost of goods sold based on the identification of the actual units sold and in inventory
residual value
expected cost of the asset at the end of its useful life
Why does LIFO result in the more realistic amount for income?
matches the most current costs, which are closer to the current market value, against revenue
what account does recording sales transactions affect?
merchandise inventory account
what are the two types of companies that sell inventory?
merchandisers and manufacturers
how is inventory affected during sales transactions?
reduces inventory account
cost of goods sold is based on
sales
depreciation expense
the amount of depreciation recorded each period
If there is an understatement of beginning inventory in Year 1...
the beginning inventory in Year 2 will be understated
the ending inventory for one period becomes...
the beginning inventory of the next period
gross margin/profit
the extent to which the resources generated by sales can be used to pay operating expenses and provide for net income
what are FIFO, LIFO, or average cost methods based on?
the flow of cost principle -the physical flow of goods into inventory and out to the customers is generally unrelated to the flow of unit costs
what is specific identification based on?
the flow of goods principle
if the LCNRV of inventory is less than its costs...
the inventory account is reduced by Cost Total - LCNRV
operating assets
the long-lived assets that are used by the company in the normal course of operations
accumulated depreciation
the total amount of depreciation expense that has been recorded since the purchase of an asset
