chapter 6 inventories
DESCRIPTION
Principles of accountingTRANSCRIPT
Chapter 6-1
CHAPTER CHAPTER 66
INVENTORIESINVENTORIES
Accounting Principles, Eighth Edition
Chapter 6-2
Reporting and Analyzing InventoryReporting and Analyzing InventoryReporting and Analyzing InventoryReporting and Analyzing Inventory
Taking a Taking a physical physical inventoryinventory
Determining Determining ownership of ownership of goodsgoods
Classifying Classifying
InventoryInventory
Classifying Classifying
InventoryInventory
Determining Determining
Inventory Inventory
QuantitiesQuantities
Determining Determining
Inventory Inventory
QuantitiesQuantities
Inventory Inventory
CostingCosting
Inventory Inventory
CostingCostingInventory Inventory
ErrorsErrors
Inventory Inventory
ErrorsErrors
Statement Statement
Presentation Presentation
and Analysisand Analysis
Statement Statement
Presentation Presentation
and Analysisand Analysis
Finished Finished goodsgoods
Work in Work in processprocess
Raw materialsRaw materials
Specific Specific identificationidentification
Cost flow Cost flow assumptionsassumptions
Financial Financial statement statement and tax and tax effectseffects
Consistent Consistent useuse
Lower-of-Lower-of-cost-or-cost-or-marketmarket
Income Income statement statement effectseffects
Balance sheet Balance sheet effectseffects
PresentationPresentation
AnalysisAnalysis
Chapter 6-3
Classifying InventoryClassifying InventoryClassifying InventoryClassifying Inventory
One Classification:
Merchandise Inventory
Three Classifications:
Raw Materials
Work in Process
Finished Goods
Merchandising Company
Manufacturing Company
Regardless of the classification, companies report all inventories under Current Assets on the balance sheet.
Chapter 6-4
Unit costs can be applied to quantities on hand using the following costing methods:
Specific Identification
First-in, first-out (FIFO)
Last-in, first-out (LIFO)
Average-cost
Inventory CostingInventory CostingInventory CostingInventory Costing
LO 2 Explain the accounting for LO 2 Explain the accounting for inventories and apply the inventory inventories and apply the inventory cost flow methods.cost flow methods.
Cost Flow Assumptio
ns
Chapter 6-5
An actual physical flow costing method in which items still in inventory are specifically costed to arrive at the total cost of the ending inventory.
Practice is relatively rare.
Most companies make assumptions (Cost Flow Assumptions) about which units were sold.
Specific Identification MethodSpecific Identification Method
Inventory CostingInventory CostingInventory CostingInventory Costing
LO 2 Explain the accounting for LO 2 Explain the accounting for inventories and apply the inventory inventories and apply the inventory cost flow methods.cost flow methods.
Chapter 6-6
LO 2 Explain the accounting for LO 2 Explain the accounting for inventories and apply the inventory inventories and apply the inventory cost flow methods.cost flow methods.
Inventory Costing – Cost Flow Inventory Costing – Cost Flow AssumptionsAssumptionsInventory Costing – Cost Flow Inventory Costing – Cost Flow AssumptionsAssumptions
Illustration 6-11Use of cost flow methods in major U.S. companies
Cost Flow
Assumption
does not need to
equal
Physical Movement
of Goods
Chapter 6-7
Earliest goods purchased are first to be sold.
Often parallels actual physical flow of merchandise.
Generally good business practice to sell oldest units first.
““First-In-First-Out (FIFO)”First-In-First-Out (FIFO)”
LO 2 Explain the accounting for LO 2 Explain the accounting for inventories and apply the inventory inventories and apply the inventory cost flow methods.cost flow methods.
Inventory Costing – Cost Flow Inventory Costing – Cost Flow AssumptionsAssumptionsInventory Costing – Cost Flow Inventory Costing – Cost Flow AssumptionsAssumptions
Chapter 6-8
Latest goods purchased are first to be sold.
Seldom coincides with actual physical flow of merchandise.
Exceptions include goods stored in piles, such as coal or hay.
““Last-In-First-Out (LIFO)”Last-In-First-Out (LIFO)”
LO 2 Explain the accounting for LO 2 Explain the accounting for inventories and apply the inventory inventories and apply the inventory cost flow methods.cost flow methods.
Inventory Costing – Cost Flow Inventory Costing – Cost Flow AssumptionsAssumptionsInventory Costing – Cost Flow Inventory Costing – Cost Flow AssumptionsAssumptions
Chapter 6-9
Allocates cost of goods available for sale on the basis of weighted average unit cost incurred.
Assumes goods are similar in nature.
Applies weighted average unit cost to the units on hand to determine cost of the ending inventory.
““Average-Cost”Average-Cost”
LO 2 Explain the accounting for LO 2 Explain the accounting for inventories and apply the inventory inventories and apply the inventory cost flow methods.cost flow methods.
Inventory Costing – Cost Flow Inventory Costing – Cost Flow AssumptionsAssumptionsInventory Costing – Cost Flow Inventory Costing – Cost Flow AssumptionsAssumptions
Chapter 6-10
FIFO
LO 3 Explain the financial effects of the inventory cost flow LO 3 Explain the financial effects of the inventory cost flow assumptions.assumptions.
Inventory Costing – Cost Flow Inventory Costing – Cost Flow AssumptionsAssumptionsInventory Costing – Cost Flow Inventory Costing – Cost Flow AssumptionsAssumptions
Sales $90 $90 $90
Cost of goods sold 10 15 20
Gross profit 80 75 70
Admin. & selling expense 33 33 33
Income before taxes 47 42 37
Income tax expense 14 13 11
Net income $33 $29 $26
Inventory balance $35 $30 $25
LIFOAverage
Comparative Financial Statement SummaryComparative Financial Statement Summary
Chapter 6-11
Inventory ErrorsInventory ErrorsInventory ErrorsInventory Errors
LO 5 Indicate the effects of inventory errors on the financial LO 5 Indicate the effects of inventory errors on the financial statements.statements.
Common Cause:
Failure to count or price inventory correctly.
Not properly recognizing the transfer of legal title to goods in transit.
Errors affect both the income statement and balance sheet.
Chapter 6-12
Inventory ErrorsInventory ErrorsInventory ErrorsInventory Errors
LO 5 Indicate the effects of inventory errors on the financial LO 5 Indicate the effects of inventory errors on the financial statements.statements.
Inventory errors affect the computation of cost of goods sold and net income.
Income Statement EffectsIncome Statement Effects
Illustration 6-17
Illustration 6-16
Chapter 6-13
Inventory ErrorsInventory ErrorsInventory ErrorsInventory Errors
LO 5 Indicate the effects of inventory errors on the financial LO 5 Indicate the effects of inventory errors on the financial statements.statements.
Inventory errors affect the computation of cost of goods sold and net income in two periods.
An error in ending inventory of the current period will have a reverse effect on net income of the next accounting period.
Over the two years, the total net income is correct because the errors offset each other.
The ending inventory depends entirely on the accuracy of taking and costing the inventory.
Income Statement EffectsIncome Statement Effects
Chapter 6-14
Inventory ErrorsInventory ErrorsInventory ErrorsInventory Errors
LO 5 Indicate the effects of inventory errors on the financial LO 5 Indicate the effects of inventory errors on the financial statements.statements.
Incorrect Correct Incorrect Correct
Sales 80,000$ 80,000$ 90,000$ 90,000$
Beginning inventory 20,000 20,000 12,000 15,000
Cost of goods purchased 40,000 40,000 68,000 68,000
Cost of goods available 60,000 60,000 80,000 83,000
Ending inventory 12,000 15,000 23,000 23,000
Cost of good sold 48,000 45,000 57,000 60,000
Gross profit 32,000 35,000 33,000 30,000
Operating expenses 10,000 10,000 20,000 20,000
Net income 22,000$ 25,000$ 13,000$ 10,000$
2008 2009
($3,000)Net Income understated
$3,000Net Income overstated
Combined income for 2-year period is
correct.
Illustration 6-18
Chapter 6-15
Inventory ErrorsInventory ErrorsInventory ErrorsInventory Errors
LO 5 Indicate the effects of inventory errors on the financial LO 5 Indicate the effects of inventory errors on the financial statements.statements.
Effect of inventory errors on the balance sheet is determined by using the basic accounting equation:.
Balance Sheet EffectsBalance Sheet Effects
Illustration 6-16
Illustration 6-19
Chapter 6-16
Inventory turnover measures the number of times on average the inventory is sold during the period.
Cost of Goods Sold
Average Inventory
Inventory Turnover
=
Statement Presentation and Statement Presentation and AnalysisAnalysisStatement Presentation and Statement Presentation and AnalysisAnalysis
Days in inventory measures the average number of days inventory is held.
Days in Year (365)
Inventory Turnover
Days in Inventory
=
LO 6 Compute and interpret the inventory turnover ratio.LO 6 Compute and interpret the inventory turnover ratio.
Chapter 6-17
BE6-9 At December 31, 2008, the following information was available for J. Graff Company: ending inventory $40,000, beginning inventory $60,000, cost of goods sold $270,000, and sales revenue $380,000. Calculate inventory turnover and days in inventory for J. Graff Company.
Statement Presentation and Statement Presentation and AnalysisAnalysisStatement Presentation and Statement Presentation and AnalysisAnalysis
LO 6 Compute and interpret the inventory turnover ratio.LO 6 Compute and interpret the inventory turnover ratio.
$270,000
($60,000 + 40,000) / 2
5.4 =
Inventory
Turnover 365
5.4 67.59 days
=
Days in Inventor
y