accounting for inventories. inventory costs all expenditures incurred

Accounting for Accounting for InventoriesInventories

Inventory CostsInventory Costs

All expenditures incurredAll expenditures incurred

Inventory CostsInventory Costs

All expenditures incurred to All expenditures incurred to bring the item to itsbring the item to its

Inventory CostsInventory Costs

All expenditures incurred to All expenditures incurred to bring the item to its bring the item to its

existing condition and existing condition and locationlocation

Costs includeCosts include

Invoice costInvoice cost ShippingShipping Cash discountsCash discounts Purchases allowancesPurchases allowances

Inventory Systems - PeriodicInventory Systems - Periodic

Compute inventory balance at end Compute inventory balance at end of each accounting periodof each accounting period

Compute cost of goods sold at Compute cost of goods sold at accounting period endaccounting period end

Inventory Systems - PerpetualInventory Systems - Perpetual

Compute cost of goods sold at Compute cost of goods sold at each saleeach sale

Compute new inventory balance at Compute new inventory balance at each saleeach sale

Cost Flow AssumptionsCost Flow Assumptions

Only with specific identification do Only with specific identification do we attempt to match the actual we attempt to match the actual movement of product through the movement of product through the business with the movement of business with the movement of costs through the accounting costs through the accounting systemsystem

Cost Flow AssumptionsCost Flow Assumptions

With other inventory cost methods, we With other inventory cost methods, we make an assumption of the movement make an assumption of the movement of costs through the accounting of costs through the accounting system.system.

This "flow" of costs through the This "flow" of costs through the system need not match the movement system need not match the movement of product through the business.of product through the business.

Cost Flow AssumptionsCost Flow Assumptions

First-In, First-OutFirst-In, First-Out

Cost Flow AssumptionsCost Flow Assumptions

First-In, First-OutFirst-In, First-Out– Earliest goods assumed to be first Earliest goods assumed to be first

units soldunits sold

Cost Flow AssumptionsCost Flow Assumptions

First-In, First-OutFirst-In, First-Out– Earliest goods assumed to be first Earliest goods assumed to be first

units soldunits sold

– Inventory made up of latest goods Inventory made up of latest goods acquiredacquired

Cost Flow AssumptionsCost Flow Assumptions

Last-In, First-OutLast-In, First-Out

Cost Flow AssumptionsCost Flow Assumptions

Last-In, First-OutLast-In, First-Out– Newest goods assumed to be first Newest goods assumed to be first

units soldunits sold

Cost Flow AssumptionsCost Flow Assumptions

Last-In, First-OutLast-In, First-Out– Newest goods assumed to be first Newest goods assumed to be first

units soldunits sold

– Inventory made up of earliest goods Inventory made up of earliest goods acquiredacquired

Cost Flow AssumptionsCost Flow Assumptions

Average costAverage cost

Cost Flow AssumptionsCost Flow Assumptions

Average costAverage cost– Cost of items sold is the weighted Cost of items sold is the weighted

average of costs incurredaverage of costs incurred

Cost Flow AssumptionsCost Flow Assumptions

Average costAverage cost– Cost of items sold is the weighted Cost of items sold is the weighted

average of costs incurredaverage of costs incurred

– Inventory is the weighted average of Inventory is the weighted average of costs incurredcosts incurred

Inventory Example DataInventory Example Data

Jan. 1Jan. 1 Beg Inven.Beg Inven. 200200 $4.00$4.00 $ 800.00$ 800.00

Apr. 10Apr. 10 PurchasePurchase 700700 5.005.00 3,500.003,500.00

Oct. 23Oct. 23 PurchasePurchase 400400 6.006.00 2,400.002,400.00

AvailableAvailable 1,3001,300 $6,700.00$6,700.00

Merchandise SalesMerchandise Sales

May 5May 5 500500

Dec. 19Dec. 19 300300

TotalTotal 800800

First-In First-OutFirst-In First-Out

Newest layerNewest layer $6.00$6.00

First-In First-OutFirst-In First-Out

Newest layerNewest layer 400 units @ $6.00400 units @ $6.00$2,400$2,400

First-In First-OutFirst-In First-Out

Newest layerNewest layer 400 units @ $6.00400 units @ $6.00$2,400$2,400

Next newest layerNext newest layer $5.00$5.00

First-In First-OutFirst-In First-Out

Newest layerNewest layer 400 units @ $6.00400 units @ $6.00$2,400$2,400

Next newest layerNext newest layer 100 units @ $5.00100 units @ $5.00500500

First-In First-OutFirst-In First-Out

Newest layerNewest layer 400 units @ $6.00400 units @ $6.00$2,400$2,400

Next newest layerNext newest layer 100 units @ $5.00100 units @ $5.00500500

Total costTotal cost$2,900$2,900

First-In First-OutFirst-In First-Out

Cost of Goods SoldCost of Goods SoldBeginning Inventory $ 800

First-In First-OutFirst-In First-Out

Cost of Goods SoldCost of Goods SoldBeginning InventoryBeginning Inventory $ 800$ 800

PurchasesPurchases 5,9005,900

Cost of goods available Cost of goods available

for salefor sale $6,700$6,700

First-In First-OutFirst-In First-Out

Cost of Goods SoldCost of Goods SoldBeginning InventoryBeginning Inventory $ 800$ 800

PurchasesPurchases 5,9005,900

Cost of goods available Cost of goods available

for salefor sale $6,700$6,700

Deduct: Ending InventoryDeduct: Ending Inventory 2,9002,900

Cost of goods soldCost of goods sold $3,800$3,800

First-In First-OutFirst-In First-Out

Proof of cost of goods sold:Proof of cost of goods sold:

Oldest cost layerOldest cost layer

200 units @ $4.00200 units @ $4.00 $ 800$ 800

First-In First-OutFirst-In First-Out

Proof of cost of goods sold:Proof of cost of goods sold:

Oldest cost layerOldest cost layer

200 units @ $4.00200 units @ $4.00 $ 800$ 800

Next oldest layerNext oldest layer

600 units @ $5.00600 units @ $5.00 3,0003,000

TotalTotal $3,800$3,800

Last-In First-OutLast-In First-Out

Oldest layerOldest layer

$4.00$4.00

Last-In First-OutLast-In First-Out

Oldest layerOldest layer

200 units @ $4.00200 units @ $4.00 $ 800$ 800

Last-In First-OutLast-In First-Out

Oldest layerOldest layer

200 units @ $4.00200 units @ $4.00 $ 800$ 800

Next oldest layerNext oldest layer

$5.00$5.00

Last-In First-OutLast-In First-Out

Oldest layerOldest layer

200 units @ $4.00200 units @ $4.00 $ 800$ 800

Next oldest layerNext oldest layer

300 units @ $5.00300 units @ $5.00 1,5001,500

Last-In First-OutLast-In First-Out

Oldest layerOldest layer

200 units @ $4.00200 units @ $4.00 $ 800$ 800

Next oldest layerNext oldest layer

300 units @ $5.00300 units @ $5.00 1,5001,500

Total costTotal cost $2,300$2,300

Last-In First-OutLast-In First-Out

LIFOLIFOPeriodic InventoryPeriodic Inventory

Cost of goods sold:Cost of goods sold:

Beginning inventoryBeginning inventory

$ 800$ 800

Last-In First-OutLast-In First-Out

LIFOLIFOPeriodic InventoryPeriodic Inventory

Cost of goods sold:Cost of goods sold:

Beginning inventoryBeginning inventory $ 800$ 800

PurchasePurchase 5,9005,900

Cost of goods availableCost of goods available $6,700$6,700

Last-In First-OutLast-In First-Out

LIFOLIFOPeriodic InventoryPeriodic Inventory

Cost of goods sold:Cost of goods sold:

Beginning inventoryBeginning inventory $ 800$ 800

PurchasePurchase 5,9005,900

Cost of goods availableCost of goods available $6,700$6,700

Deduct: Ending inventoryDeduct: Ending inventory 2,3002,300

Cost of goods soldCost of goods sold $4,400$4,400

Last-In First-OutLast-In First-Out

LIFOLIFOPeriodic InventoryPeriodic Inventory

Proof of Cost of Goods SoldProof of Cost of Goods Sold

Last-In First-OutLast-In First-Out

LIFOLIFOPeriodic InventoryPeriodic Inventory

Proof of Cost of Goods SoldProof of Cost of Goods Sold

Newest cost layerNewest cost layer

400 units @ $6.00400 units @ $6.00

$2,400$2,400

Last-In First-OutLast-In First-Out

LIFOLIFOPeriodic InventoryPeriodic Inventory

Proof of Cost of Goods SoldProof of Cost of Goods Sold

Newest cost layerNewest cost layer

400 units @ $6.00400 units @ $6.00 $2,400$2,400

Next newest layerNext newest layer

400 units @ $5.00400 units @ $5.00 2,0002,000

Total costTotal cost $4,400$4,400

Weighted AverageWeighted Average

Periodic InventoryPeriodic Inventory

Weighted average cost equalsWeighted average cost equals

Cost of goods available for saleCost of goods available for sale $6,700$6,700

divided bydivided by

Total units availableTotal units available 1,3001,300

equalsequals

Weighted average cost per unitWeighted average cost per unit $5.1538$5.1538

Weighted AverageWeighted Average

Periodic InventoryPeriodic Inventory

December 31 InventoryDecember 31 Inventory

500 units x $5.1538 = $2,577500 units x $5.1538 = $2,577

Weighted AverageWeighted Average

Periodic InventoryPeriodic Inventory

Cost of goods sold:Cost of goods sold:

Weighted AverageWeighted Average

Periodic InventoryPeriodic Inventory

Cost of goods sold:Cost of goods sold:Beginning inventoryBeginning inventory $ 800$ 800

PurchasesPurchases 5,9005,900

Cost of goods availableCost of goods available $6,700$6,700

Weighted AverageWeighted Average

Periodic InventoryPeriodic Inventory

Cost of goods sold:Cost of goods sold:Beginning inventoryBeginning inventory $ 800$ 800

PurchasesPurchases 5,9005,900

Cost of goods availableCost of goods available $6,700$6,700

Deduct: Ending inventoryDeduct: Ending inventory 2,5772,577

Cost of goods soldCost of goods sold $4,123$4,123

Weighted AverageWeighted Average

Periodic InventoryPeriodic Inventory

Proof of cost of goods soldProof of cost of goods sold

800 units x $5.1538 = $4,123800 units x $5.1538 = $4,123

Income Statement Comparison Income Statement Comparison

Periodic InventoryPeriodic InventoryFIFOFIFO LIFOLIFO WAWA

SalesSales $8,000$8,000 $8,000$8,000 $8,000$8,000

CGSCGS 3,8003,800 4,4004,400 4,1234,123

GMGM $4,200$4,200 $3,600$3,600 $3,877$3,877

Op. expenseOp. expense 1,0001,000 1,0001,000 1,0001,000

Net incomeNet income $3,200$3,200 $2,600$2,600 $2,877$2,877

Last-In First-OutLast-In First-Out

LIFO - Perpetual InventoryLIFO - Perpetual Inventory200 x $4 $800200 x $4 $800

Last-In First-OutLast-In First-Out

LIFO - Perpetual InventoryLIFO - Perpetual Inventory4/44/4 700 x $5700 x $5 $3500$3500 200 x $4 $800200 x $4 $800

700 x $5 3500700 x $5 3500$4300$4300

Last-In First-OutLast-In First-Out

LIFO - Perpetual InventoryLIFO - Perpetual Inventory4/44/4 700 x $5700 x $5 $3500$3500 200 x $4 $800200 x $4 $800

700 x 700 x $5$5 3500 3500$4300$4300

5/55/5 500 x 500 x $5$5 $2500 $2500 200 x $4 $800200 x $4 $800

200200 x $5 1000 x $5 1000$1800$1800

Last-In First-OutLast-In First-Out

LIFO - Perpetual InventoryLIFO - Perpetual Inventory4/44/4 700 x $5700 x $5 $3500$3500 200 x $4 $800200 x $4 $800

700 x $5 3500700 x $5 3500$4300$4300

5/55/5 500 x $5 $2500500 x $5 $2500 200 x $4 $800200 x $4 $800

200 x $5 1000200 x $5 1000$1800$1800

10/2310/23 400 x $6400 x $6 $2400$2400 200 x $4 $800200 x $4 $800

200 x $5 1000200 x $5 1000

400 x $6 2400400 x $6 2400$4200$4200

Last-In First-OutLast-In First-Out

LIFO - Perpetual InventoryLIFO - Perpetual Inventory4/44/4 700 x $5700 x $5 $3500$3500 200 x $4 $800200 x $4 $800

700 x $5 3500700 x $5 3500 $4300$4300

5/55/5 500 x $5 $2500500 x $5 $2500 200 x $4 $800200 x $4 $800

200 x $5 1000200 x $5 1000 $1800$1800

10/2310/23 400 x $6400 x $6 $2400$2400 200 x $4 $800200 x $4 $800

200 x $5 1000200 x $5 1000

400 x 400 x $6$6 2400 2400 $4200$4200

12/1912/19 300x $6 $1800300x $6 $1800 200 x $4 $800200 x $4 $800

200 x $5 1000200 x $5 1000

100100 x $6 600 x $6 600 $2400$2400

Last-In First-OutLast-In First-Out

LIFO - Perpetual InventoryLIFO - Perpetual Inventory4/44/4 700 x $5700 x $5 $3500$3500 200 x $4 $800200 x $4 $800

700 x $5 3500700 x $5 3500 $4300$4300

5/55/5 500 x $5 $2500500 x $5 $2500 200 x $4 $800200 x $4 $800

200 x $5 1000200 x $5 1000 $1800$1800

10/2310/23 400 x $6400 x $6 $2400$2400 200 x $4 $800200 x $4 $800

200 x $5 1000200 x $5 1000

400 x $6 2400400 x $6 2400 $4200$4200

12/1912/19 300x $6 $1800300x $6 $1800 200 x $4 $800200 x $4 $800

200 x $5 1000200 x $5 1000

100 x $6 600100 x $6 600 $2400$2400

Cost of goods soldCost of goods sold $4300$4300

Lower of Cost or MarketLower of Cost or Market

Class AClass A CostCost MktMkt LCMLCM

Item 1Item 1 $100$100 $120$120

Item 2Item 2 8080 7070

Class BClass B

Item 6Item 6 $50$50 $65$65

Item 7Item 7 4040 2020

Lower of Cost or Market - By ItemLower of Cost or Market - By Item

Class AClass A CostCost MktMktLCMLCM

Item 1Item 1 $100$100 $120$120$100$100

Lower of Cost or Market - By ItemLower of Cost or Market - By Item

Class AClass A CostCost MktMktLCMLCM

Item 1Item 1 $100$100 $120$120$100$100

Item 2Item 2 8080 70707070

Lower of Cost or Market - By ItemLower of Cost or Market - By Item

Class AClass A CostCost MktMkt LCMLCM

Item 1Item 1 $100$100 $120$120 $100$100

Item 2Item 2 8080 7070 7070

Class BClass B

Item 6Item 6 $50$50 $65$65 5050

Lower of Cost or Market - By ItemLower of Cost or Market - By Item

Class AClass A CostCost MktMkt LCMLCM

Item 1Item 1 $100$100 $120$120 $100$100

Item 2Item 2 8080 7070 7070

Class BClass B

Item 6Item 6 $50$50 $65$65 5050

Item 7Item 7 4040 2020 2020

TotalTotal $240$240

Lower of Cost or Market - By ClassLower of Cost or Market - By Class

Class AClass A CostCost MktMktLCMLCM

Item 1Item 1 $100$100 $120$120

Item 2Item 2 8080 7070

TotalTotal $180$180 $190$190$180$180

Lower of Cost or Market - By ClassLower of Cost or Market - By Class

Class AClass A CostCost MktMkt LCMLCM

Item 1Item 1 $100$100 $120$120

Item 2Item 2 8080 7070

TotalTotal $180$180 $190$190 $180$180

Class BClass B

Item 6Item 6 $50$50 $65$65

Item 7Item 7 4040 2020

TotalTotal $90$90 $85$85 8585

TotalTotal $265$265

Lower of Cost or Market- By TotalLower of Cost or Market- By Total

Class AClass A CostCost MktMkt LCMLCM

Item 1Item 1 $100$100 $120$120

Item 2Item 2 8080 7070

Class BClass B

Item 6Item 6 5050 4040

Item 7Item 7 4040 2020

TotalTotal $270$270 $275$275 $270$270

Gross Margin MethodGross Margin MethodLogic of Income StatementLogic of Income Statement

Net SalesNet Sales $70$70

Cost of goods sold:Cost of goods sold:

Begin invBegin inv $ 5$ 5

Net purchasesNet purchases 50 50

Cost goods availCost goods avail $55$55

End invEnd inv 10 10 45 45

Gross marginGross margin $25$25

Gross Margin MethodGross Margin MethodInventory EstimationInventory Estimation

Cost of goods available:Cost of goods available:

Begin invBegin inv $ 20,000$ 20,000

Net purchasesNet purchases 135,000135,000

Cost of goods availableCost of goods available $155,000$155,000

Deduct cost of goods sold:Deduct cost of goods sold:

Gross Margin MethodGross Margin MethodInventory EstimationInventory Estimation

Cost of goods availableCost of goods available $155,000$155,000

Net salesNet sales $150,000$150,000

Multiply by (1 - Gross margin rate)Multiply by (1 - Gross margin rate)

(1 - 0.30) (1 - 0.30) x 0.70x 0.70

Est cost of goods soldEst cost of goods sold 105,000105,000

Est ending inventoryEst ending inventory $ 50,000$ 50,000

Gross Margin Method Gross Margin Method Proof of AnswerProof of Answer

Net salesNet sales $150,000$150,000

Cost of goods soldCost of goods sold

Begin invBegin inv $ 20,000$ 20,000

Net purchasesNet purchases 135,000135,000

CGASCGAS $155,000$155,000

End invEnd inv 50,00050,000

Cost of goods soldCost of goods sold 105,000105,000

Gross marginGross margin $ 45,000$ 45,000

Inventory ErrorsInventory Errors

An error in the computation of An error in the computation of inventory at the end of one periodinventory at the end of one period

Inventory ErrorsInventory Errors

An error in the computation of An error in the computation of inventory at the end of one period inventory at the end of one period

causes an error in assets and causes an error in assets and owner’s equity at the end of that owner’s equity at the end of that

periodperiod

Inventory ErrorsInventory Errors

An error in the computation of An error in the computation of inventory at the end of one period inventory at the end of one period

causes an error in assets and causes an error in assets and owner’s equity at the end of that owner’s equity at the end of that

periodperiod

and an error in income for two and an error in income for two periodsperiods..

Effect of Inventory ErrorsEffect of Inventory Errors

Overstatement of inventory at end Overstatement of inventory at end of period 1of period 1– Causes an overstatement of net Causes an overstatement of net

income for period 1income for period 1

Effect of Inventory ErrorsEffect of Inventory Errors

Overstatement of inventory at end Overstatement of inventory at end of period 1of period 1– Causes an overstatement of net Causes an overstatement of net

income for period 1income for period 1

– and an overstatement of assets and and an overstatement of assets and owner's equity at period 1 endowner's equity at period 1 end

Effect of Inventory ErrorsEffect of Inventory Errors

Overstatement of inventory at end Overstatement of inventory at end of period 1of period 1– Causes an understatement of net Causes an understatement of net

income for period 2income for period 2

Effect of Inventory ErrorsEffect of Inventory Errors

Overstatement of inventory at end Overstatement of inventory at end of period 1of period 1– Causes an understatement of net Causes an understatement of net

income for period 2income for period 2

– BUT assets and owner's equity at BUT assets and owner's equity at period 2 end will be correctperiod 2 end will be correct

Effect of Inventory ErrorsEffect of Inventory Errors

Understatement of inventory at end Understatement of inventory at end of period 1of period 1– Causes an understatement of net Causes an understatement of net

income for period 1income for period 1

Effect of Inventory ErrorsEffect of Inventory Errors

Understatement of inventory at end Understatement of inventory at end of period 1of period 1– Causes an understatement of net Causes an understatement of net

income for period 1income for period 1

– and an understatement of assets and and an understatement of assets and owner's equity at period 1 endowner's equity at period 1 end

Effect of Inventory ErrorsEffect of Inventory Errors

Understatement of inventory at end Understatement of inventory at end of period 1of period 1– Causes an overstatement of net Causes an overstatement of net

income for period 2income for period 2

Effect of Inventory ErrorsEffect of Inventory Errors

Understatement of inventory at end Understatement of inventory at end of period 1of period 1– Causes an overstatement of net Causes an overstatement of net

income for period 2income for period 2

– BUT assets and owner's equity at BUT assets and owner's equity at period 2 end will be correctperiod 2 end will be correct