6 Inventories
FINANCIAL
ACCOUNTING
2ND EDITION
BY
DUCHAC, REEVE, & WARREN
© Copyright 2007 Thomson South-Western, a part
of The Thomson Corporation. Thomson, the Star
Logo, and South-Western are trademarks used
herein under license.
1
LEARNING GOALS
When you finish this
chapter, you should be
able to
2
LEARNING GOALS
1. Identify types of inventory used.
2. Summarize control procedures for
inventory.
3. Describe 3 inventory cost flow
assumptions; financial statement impact.
Continued
3
LEARNING GOALS
4. Determine cost of perpetual inventory using
FIFO, LIFO, average.
5. Determine cost of periodic inventory
using FIFO, LIFO, average.
6. Compare 3 inventory methods.
Continued
4
LEARNING GOALS
7. Determine lower-of-cost-or-market for
inventory.
8. Describe quick response for inventory.
9. Interpret inventory turnover ratio, days
sales in inventory.
5
BEST BUY
Best Buy
Target inventory to its customers
Manages inventory for customer needs
Balances costs to hold inventory such as
obsolescence, financing & storage costs
6
LEARNING GOALS
1
Identify types of
inventory used.
7
LG 1
TYPES OF INVENTORY
Inventories differ between
merchandisers and
manufacturers
Merchandisers
Hold inventory for resale
Do not make goods
8
LG 2
MANUFACTURING
INVENTORIES
Materials inventory
Raw material used to make product
Work-in-process inventory
Cost of partially completed products
Finished goods inventory
Total costs of completed goods
Materials
Labor
Factory overhead
9
LEARNING GOALS
2
Summarize control
procedures for
inventory.
10
LG 2
INVENTORY CONTROL
2 Objectives
Safeguarding
Reporting
11
LG 2
SAFEGUARDING
Safeguarding measures to
prevent damage, theft
•Restrict access
•Alarm tags
12
LG 2
REPORTING
Aids to reporting accuracy
•Perpetual inventory
•Subsidiary ledgers
•Physical inventory counts
13
LEARNING GOALS
3
Describe 3 inventory cost
flow assumptions;
financial statement
impact.
14
LG 3
COST?
How is cost of inventory
determined?
15
LG 3
COST FLOW ASSUMPTIONS
3 methods to calculate cost
– First-in-first-out (FIFO)
– Last-in-first-out (LIFO)
– Average
16
LG 3
FIFO
Under FIFO, the first goods
purchased are assumed to be
the first goods sold
17
LG 3
FIFO CALCULATION
During May, 3 units purchased, 1 unit sold.
MAY UNITS
10
1
18
24
Total
1
1
3
COST
$9
13
14
$36
Income
Statement
Balance
Sheet
18
LG 3
FIFO STATEMENTS
Income Statement
Balance Sheet
Sales…………$20
Inventory…$27
CMS………….. 9
Gross Profit….$11
Click button
to skip
exercise
19
LG 3
EXERCISE 6-10a
Ending inventory is 11 units.
1/1 Inventory
2/4 Purchase
7/20 Purchase
12/30 Purchase
Calculate the cost of ending
inventory using FIFO.
6 units @ $28
12 units @ $30
14 units @ $32
8 units @ $33
a = $360
Press “Enter” or click left mouse button for answer.
20
LG 3
LIFO
Under LIFO, the last goods
purchased are assumed to be
the first goods sold
21
LG 3
LIFO CALCULATION
During May, 3 units purchased, 1 unit sold.
MAY UNITS
10
1
18
1
24
1
Total
3
COST
$9
13
14
Balance
Sheet
Income
Statement
$36
22
LG 3
LIFO STATEMENTS
Income Statement
Balance Sheet
Sales…………$20
Inventory…$22
CMS…………. 14
Gross Profit….$ 6
Click button
to skip
exercise
23
LG 3
EXERCISE 6-10b
Ending inventory is 11 units.
1/1 Inventory
2/4 Purchase
7/20 Purchase
12/30 Purchase
Calculate the cost of ending
inventory using LIFO.
6 units @ $28
12 units @ $30
14 units @ $32
8 units @ $33
a = $318
Press “Enter” or click left mouse button for answer.
24
LG 3
AVERAGE
With Average cost, the
average purchase cost is
cost of merchandise sold.
25
LG 3
AVERAGE CALCULATION
During May, 3 units purchased, 1 unit sold.
MAY
10
18
24
Total
Average
UNITS COST
1
$9
1
13
1
14
3
$36
$12
Income
Statement
26
LG 3
AVERAGE STATEMENTS
Income Statement
Balance Sheet
Sales…………$20
Inventory…$24
CMS…………. 12
Gross Profit….$ 8
Click button
to skip
exercise
27
LG 3
EXERCISE 6-10b
Ending inventory is 11 units.
1/1 Inventory
2/4 Purchase
7/20 Purchase
12/30 Purchase
Calculate the cost of ending
inventory using AVERAGE.
6 units @ $28
12 units @ $30
14 units @ $32
8 units @ $33
a = $341
Press “Enter” or click left mouse button for answer.
28
LEARNING GOALS
4
Determine cost of
perpetual inventory
using FIFO, LIFO,
average.
29
LG 4
PERPETUAL INVENTORY
Increases, decreases in merchandise recorded
in manner similar to cash
Journal entry
Inventory
Cash / Accounts Payable
30
LG 4
PERPETUAL INVENTORY
JAN ITEM 127B
1 Inventory
4 Sale
10 Purchase
UNITS
COST
10
7
8
22 Sale
4
28 Sale
2
30 Purchase
$20
21
10
22
1/31 Ending Inventory: 28 – 13 =
15
31
LG 4
FIFO REVIEWED
Under FIFO, the first
goods purchased are
assumed to be the first
goods sold
32
LG 4
FIFO CMS:
Income Statement
SOLD
JAN UNITS COST TOTAL
4
7
20
$140
22
3
20
60
1
21
21
28
2
21
42
31
CMS
$263
I/S
33
LG 4
FIFO INVENTORY:
Balance Sheet
Ending
Inventory COST TOTAL
5
21
$105
10
22
220
15
$325
B/S
34
LG 3
LIFO REVIEWED
Under LIFO, the last goods
purchased are assumed to be
the first goods sold
35
LG 4
LIFO CMS:
Income Statement
SOLD
JAN UNITS COST TOTAL
4
7
20
$140
2
4
21
84
28
31
2
CMS
21
42
$266
I/S
36
LG 4
LIFO INVENTORY:
Balance Sheet
Ending
Inventory COST TOTAL
3
20
$60
2
21
42
10
22
220
15
$322
B/S
37
LG 4
AVERAGE REVIEWED
With Average cost, the
average purchase cost is
calculated among inventory
units available for each sale.
38
LEARNING GOALS
5
Determine cost of
periodic inventory using
FIFO, LIFO, average
39
LG 5
PERIODIC INVENTORY
SYSTEM
Only revenue is recorded at point of sale
Cost of merchandise sold (CMS) is
calculated at the end of the period
using
– FIFO
– LIFO
– Average
40
LEARNING GOALS
6
Compare 3 inventory
methods.
41
LG 6
INVENTORY RECORDS
Units
1/1
Cost Total
Inventory
200
$9 $1,800
3/10 Purchase
9/21 Purchase
11/18 Purchase
300
400
100
10
11
12
Available for sale
1,000
3,000
4,400
1,200
$10,400
42
LG 6
COMPARING METHODS
Sales = $15,000
Merchandise available for sale = $10,400
3 cost methods
– FIFO
– LIFO
– Average
43
LG 6
FIFO
Sales
- Cost of Merchandise sold
Gross Profit
$15,000
7,000
$8,000
44
LG 6
LIFO
Sales
- Cost of Merchandise sold
Gross Profit
$15,000
7,600
$7,400
45
LG 6
AVERAGE
Sales
-Cost of Merchandise sold
Gross Profit
$15,000
7,280
$7,720
46
LEARNING GOALS
7
Determine lower-ofcost-or-market for
inventory.
47
LG 7
INVENTORY VALUATION:
Other Than Cost
Used to ensure inventory not
reported at a cost higher than
its replacement cost
48
LG 7
LOWER-OF-COST-OR
MARKET (Slide 1 of 3)
Item
A
B
C
D
Quantity
400
120
600
280
Unit
Cost
$10.25
22.50
8.00
14.00
Unit
Market
$ 9.50
24.10
7.75
14.75
Basic Information
49
LG 7
LOWER-OF-COST-OR
MARKET (Slide 2 of 3)
Item
Cost
Market
LCM
A
$4,100
$3,800
$3,800
B
C
D
2,700
4,800
3,920
2,892
4,650
4,130
2,700
4,650
3,920
50
LOWER-OF-COST-OR
MARKET (Slide 3 of 3)
Calculation:
$3,800 + $2,700 + $4,650 + $3,920
Ending Inventory = $15,070
51
LEARNING GOALS
8
Describe quick response
for inventory.
52
LG 8
QUICK RESPONSE
To optimize inventory levels
using
– Least amount of inventory on
hand
– Internet ordering
53
LEARNING GOALS
9
Interpret inventory
turnover ratio, days
sales in inventory.
54
INVENTORY RATIOS
Measures efficiency, effectiveness of
inventory level
– Inventory turnover
– Days sales in inventory
55
INVENTORY RATIOS:
Formulas
– Inventory turnover
Cost Merchandise Sold/ Average
Inventory
– Days sales in inventory
Ave Inventory/ Ave. Daily CMS
56
INVENTORY TURNOVER
Best Buy Circuit City
CMS
Ave Inventory
Inventory
turnover
$18,350
$7,904
$2,342
$1,488
7.84
5.31
Measures number of times inventory turns
over during year.
57
ANALYSIS: Inventory Turnover
Best Buy turns its inventory almost
8 times in a year
Circuit City turns its inventory
slightly more than 5 times in a year
58
DAYS IN SALES
Ave. Daily CMS
Best
Buy
$50.27
Circuit
City
$21.65
Ave. Inventory
$2,342
$1,488
Days in Sales
47 days
69 days
Measures number of days inventory stays on
shelves
59
ANALYSIS: Days in Sales
Best Buy sells through its
inventory every 47 days on
average
Circuit City sells through its
inventory every 69 days on
average
60
CHAPTER 6
THE END
61