Chapter 7 Financial Accounting

Accounting, 21st EditionWarren Reeve Fess

Chapter 7InventoriesAccounting, 21st EditionWarren Reeve Fess

PowerPoint Presentation by Douglas CloudProfessor Emeritus of Accounting Pepperdine University

© Copyright 2004 South-Western, a pision of Thomson Learning. All rights reserved. Task Force Image Gallery clip art included in this electronic presentation is used with the permission of NVTech Inc.

Accounting, 21st EditionWarren Reeve Fess

Objectives1. Describe the three inventory cost flow assumptions and how they impact the income statement and balance sheet. 4. Compute the cost of inventory under the perpetual inventory system, using the following cost methods: first-in, first-out; lastin, first-out; average cost.

Accounting, 21st EditionWarren Reeve Fess

Objectives5. Compute the cost of inventory under the periodic inventory system, using the following costing methods: first-in, first-out; last-in, first-out; average cost. 6. Compare and contrast the use of the three inventory costing methods. 7. Compute the proper valuation of inventory at other than cost, using the lower-of-cost-ormarket and net realization value concepts.

Accounting, 21st EditionWarren Reeve Fess

Why is Inventory Control Important? Inventory is a significant asset and for many companies the largest asset.

Inventory is central to the main activity of merchandising and manufacturing companies. Mistakes in determining inventory cost can cause critical errors in financial statements. Inventory must be protected from external risks ( such as fire and theft) and internal fraud by employees.

Accounting, 21st EditionWarren Reeve Fess

Receiving report

AGREE

Purchase order

Invoice

JOURNALDate

DescriptionAccounts Payable--XYZ Co. Purchased merchandise on

Post. Ref.

Nov. 9 Inventory

1 222 00 1 222 00

account.

Accounting, 21st EditionWarren Reeve Fess

Effect of Inventory Errors on Financial StatementsLIABILITIES

Merchandise Inventory Cost of Merchandise Sold

ASSETS

OWNER’S EQUITYNet Income

COSTS & EXPENSES

REVENUES

Accounting, 21st EditionWarren Reeve Fess

Let’ assume that:

The company is buying and selling product A. The inventory of merchandise at beginning of the month June is as follows: 1 unit, 3$ 1 unit, 5$ 1 unit, 6$ Total = 3 units, 14$ The company sells 1 unit for 7$.

Accounting, 21st EditionWarren Reeve Fess

Inventory Costing Methods43%40% 30% 20% 10% 0%

34%

19%

4% Fifo Lifo Average Other

Accounting, 21st EditionWarren Reeve Fess

Perpetual Inventory CostsInventory cost data to demonstrate FIFO and LIFO Perpetual SystemsItem 127B Jan. 1 Inventory 4 Sale Cost of 10 Mdse.Purchase Sold 22 Sale 28 Sale 30 Purchase Units 10 7 8 4 2 10 Cost $20 $30 21 Price

31 3222

Accounting, 21st EditionWarren Reeve Fess

Accounting, 21st EditionWarren Reeve Fess

FIFO Perpetual Inventory AccountItem 127B Purchases Date Qty. Unit Cost Total Cost Cost of Mdse. Sold Qty. Unit Cost Total Cost Inventory Balance Qty. Unit Total Cost Cost

Jan. 1

10

20

200

The firm begins the year with 10 units of Item 127B on hand at a total cost of $200.

Accounting, 21st EditionWarren Reeve Fess

FIFO Perpetual Inventory AccountInventory cost data to demonstrate FIFO and LIFO Perpetual SystemsItem 127B Units Cost Price $30 21

Jan. 1 Inventory 4 Sale Cost of 10 Mdse.Purchase Sold 22 Sale 28 Sale 30 Purchase

10 7 8 4 2 10

$20

31 3222

On January 4, 7 units of Item 127B are sold at $30 each.

Accounting, 21st EditionWarren Reeve Fess

FIFO Perpetual Inventory AccountIt

em 127B Purchases Date Qty. Unit Cost Total Cost Cost of Mdse. Sold Qty. 7 Unit Cost 20 Total Cost 140 Inventory Balance Qty. Unit Total Cost Cost

Jan. 1 4

10 3

20 20

200 60

The sale of 7 units leaves a balance of 3 units.

On January 4, 7 units of Item 127B are sold at $30 each.

Accounting, 21st EditionWarren Reeve Fess

FIFO Perpetual Inventory AccountInventory cost data to demonstrate FIFO and LIFO Perpetual SystemsItem 127B Units Cost Price $30 21

Jan. 1 Inventory 4 Sale Cost of 10 Mdse.Purchase Sold 22 Sale 28 Sale 30 Purchase

10 7 8 4 2 10

$20

31 3222

On January 10, the firm purchased eight units at $21 each.

Accounting, 21st EditionWarren Reeve Fess

FIFO Perpetual Inventory AccountItem 127B Purchases Date Qty. Unit Cost Total Cost Cost of Mdse. Sold Qty. 7 8 21 168 Unit Cost 20 Total Cost 140 Inventory Balance Qty. Unit Total Cost Cost

Jan. 1 4 10

10 3 3 8

20 20 20 21

200 60 60 168

purchased eight units at $21 each.

Because the purchase price of $21 is different than the cost of the previous 3 units Onhand, the inventory balance of on January 10, the firm 11 units is accounted for separately.

Accounting, 21st EditionWarren Reeve Fess

FIFO Perpetual Inventory AccountInventory cost data to demonstrate FIFO and LIFO Perpetual SystemsItem 127B Units Cost Price $30 21

Jan. 1 Inventory 4 Sale Cost of 10 Mdse.Purchase Sold 22 Sale 28 Sale 30 Purchase

10 7 8 4 2 10

$20

31 3222

On January 22, the firm sold four units for $31 each.