Principles of Accounting Chapter 6: Inventories and Cost of Sales

Merchandise inventory includes

all goods that a company owns & holds for sale, regardless of where the goods are located & when inventory is counted

Items requiring special attention

-goods in transit

-goods on consignment

-goods damaged/obsolete

FOB shipping point

goods included in buyer's inventory when shipped

FOB destination

goods included in buyer's inventory after arrival at destination

Consignor

owner of goods

Consignee

sells goods for the owner

In Goods on Consignment merchandise is included in the

inventory of the consigner

In Goods on Consignment consignee never reports

consigned goods in inventory

Goods on damaged/obsolete

-damaged/obsolete goods are not reported in inventory if they cannot be sold

-damaged/obsolete goods which can be sold are included in inventory at net realizable value

-net realizable value = sales price - selling costs

-loss is recorded when damage/obsolescence occurs

Inventory cost =

invoice cost - discounts + other costs

Other costs include

-shipping

-storage

-insurance

-import duties

Good internal controls over inventory count include:

-pre-numbered inventory tickets

-counters have no inventory responsibility

-counters confirm existence, amount, & condition of inventory

-second count is taken by a different counter

-manager confirms all items counted only once

Four methods to assign costs to inventory & cost of goods sold

1. specific identification

2. first-in, first-out (FIFO)

3. last-in, first-out (LIFO)

4. weighted average

Cost flow inventory

beginning inventory + net purchases = merchandise available for sale = ending inventory + cost of goods sold

Under a perpetual system inventory affects

-balance sheet: ending inventory

-income statement: cost of goods sold

FIFO (perpetual)

oldest costs -> cost of goods sold

recent costs -> ending inventory

LIFO (perpetual)

recent costs -> cost of goods sold

oldest costs -> ending inventory

Weighted average (perpetual)

cost of goods available for sale/units on hand on the date of sale

Effects of FIFO

ending inventory approximates current cost

Effects of LIFO

COGS on income statement approximates its current costs

Effects of weighted average

smoothes out price changes

Inventory must be reported at market value when market is _ than cost

lower (replacement cost)

Replacement cost can be applied 3 ways:

1. separately to each individual item

2. to major categories of assets

3. to the whole inventory

Inventory turnover

shows how many times a company turns over its inventory during a period

-indicator of how well management is controlling the amount of inventory available

Inventory Turnover equation

cost of goods sold/average inventory

Average inventory =

(beg inv + end inv) / 2

Days' sales in inventory

reveals how much inventory is available in terms of the # of days' sales

Days' sales in inventory equation

(ending inventory/cost of goods sold) x 365

In a period system inventory affects

balance sheet: ending inventory

income statement: COGS

Periodic system - weighted average

when a unit is sold, the average cost of each unit in inventory is assigned to COGS