kieso13eslides8
TRANSCRIPT
Chapter 8-1
Chapter 8-2
C H A P T E R C H A P T E R 88
VALUATION OF INVENTORIES: VALUATION OF INVENTORIES:
A COST-BASIS APPROACHA COST-BASIS APPROACH
Intermediate Accounting13th Edition
Kieso, Weygandt, and Warfield
Chapter 8-3
Inventories are:
items held for sale, or
goods to be used in the production of goods to be sold.
Inventory IssuesInventory IssuesInventory IssuesInventory Issues
LO 1 Identify major classifications of inventory.LO 1 Identify major classifications of inventory.
Classification
MerchandiserMerchandiser ManufacturerManufacturer
Businesses with Inventory:
or
Chapter 8-4
One inventory accountPurchase goods ready for sale
Classification
Inventory IssuesInventory IssuesInventory IssuesInventory Issues
LO 1 Identify major classifications of inventory.LO 1 Identify major classifications of inventory.
Illustration 8-1Illustration 8-1
Chapter 8-5
Classification
Inventory IssuesInventory IssuesInventory IssuesInventory Issues
LO 1 Identify major classifications of inventory.LO 1 Identify major classifications of inventory.
Illustration 8-1Illustration 8-1
Three accountsRaw materialsWork in processFinished goods
Chapter 8-6
Inventory Cost Flow
Inventory IssuesInventory IssuesInventory IssuesInventory Issues
Illustration 8-Illustration 8-22
LO 1 Identify major classifications of inventory.LO 1 Identify major classifications of inventory.
Chapter 8-7
Inventory Cost Flow
Inventory IssuesInventory IssuesInventory IssuesInventory Issues
Illustration 8-Illustration 8-33
LO 1 Identify major classifications of inventory.LO 1 Identify major classifications of inventory.
Companies use one of two types of systems for maintaining inventory records — perpetual system or periodic system.
Chapter 8-8
Inventory Cost FlowInventory Cost FlowInventory Cost FlowInventory Cost Flow
LO 2 Distinguish between perpetual and periodic inventory LO 2 Distinguish between perpetual and periodic inventory systems.systems.
Perpetual System
1. Purchases of merchandise are debited to Inventory.
2. Freight-in is debited to Inventory. Purchase returns and allowances and purchase discounts are credited to Inventory.
3. Cost of goods sold is debited and Inventory is credited for each sale.
4. Subsidiary records show quantity and cost of each type of inventory on hand.
The perpetual inventory system provides a continuous record of Inventory and Cost of Goods
Sold.
Chapter 8-9
Inventory Cost FlowInventory Cost FlowInventory Cost FlowInventory Cost Flow
LO 2 Distinguish between perpetual and periodic inventory LO 2 Distinguish between perpetual and periodic inventory systems.systems.
Periodic System
1. Purchases of merchandise are debited to Purchases.
2. Ending Inventory determined by physical count.
3. Calculation of Cost of Goods Sold:Beginning inventory
$ 100,000
Purchases, net
800,000
Goods available for sale
900,000
Ending inventory
125,000
Cost of goods sold
$ 775,000
Chapter 8-10
Inventory Cost FlowInventory Cost FlowInventory Cost FlowInventory Cost Flow
LO 2 Distinguish between perpetual and periodic inventory LO 2 Distinguish between perpetual and periodic inventory systems.systems.
Illustration: Fesmire Company had the following transactions during the current year.
Record these transactions using the Perpetual and Periodic systems.
Chapter 8-11
Inventory Cost FlowInventory Cost FlowInventory Cost FlowInventory Cost Flow
LO 2 Distinguish between perpetual and periodic inventory LO 2 Distinguish between perpetual and periodic inventory systems.systems.
Illustration 8-Illustration 8-44
Illustration:
Solution on notes page
Chapter 8-12
Inventory Cost FlowInventory Cost FlowInventory Cost FlowInventory Cost Flow
LO 2 Distinguish between perpetual and periodic inventory LO 2 Distinguish between perpetual and periodic inventory systems.systems.
Illustration: Assume that at the end of the reporting period, the perpetual inventory account reported an inventory balance of $4,000. However, a physical count indicates inventory of $3,800 is actually on hand. The entry to record the necessary write-down is as follows.
Inventory Over and Short 200
Inventory 200
Note: Inventory Over and Short adjusts Cost of Goods Sold. In practice, companies sometimes report Inventory Over and Short in the “Other revenues and gains” or “Other expenses and losses” section of the income statement.
Chapter 8-13
Inventory Control
Inventory IssuesInventory IssuesInventory IssuesInventory Issues
LO 2 Distinguish between perpetual and periodic inventory LO 2 Distinguish between perpetual and periodic inventory systems.systems.
All companies need periodic verification of the inventory records by actual count, weight, or measurement, with the counts compared with the detailed inventory records.
Companies should take the physical inventory near the end of their fiscal year, to properly report inventory quantities in their annual accounting reports.
Chapter 8-14
Basic Issues in Inventory ValuationBasic Issues in Inventory ValuationBasic Issues in Inventory ValuationBasic Issues in Inventory Valuation
LO 2 Distinguish between perpetual and periodic inventory LO 2 Distinguish between perpetual and periodic inventory systems.systems.
Valuation
Companies must allocate the cost of all the goods available for sale (or use) between the goods that were sold or used and those that are still on hand.
Illustration 8-Illustration 8-55
Chapter 8-15
Basic Issues in Inventory ValuationBasic Issues in Inventory ValuationBasic Issues in Inventory ValuationBasic Issues in Inventory Valuation
LO 2 Distinguish between perpetual and periodic inventory LO 2 Distinguish between perpetual and periodic inventory systems.systems.
The physical goods (goods on hand, goods in transit, consigned goods, special sales agreements).
The costs to include (product vs. period costs).
The cost flow assumption (FIFO, LIFO, Average cost, Specific Identification, Retail, etc.).
Valuation requires determining
Chapter 8-16
A company should record purchases when it obtains legal title to the goods.
Physical Goods Included in InventoryPhysical Goods Included in InventoryPhysical Goods Included in InventoryPhysical Goods Included in Inventory
LO 2 Distinguish between perpetual and periodic inventory LO 2 Distinguish between perpetual and periodic inventory systems.systems.
Illustration 8-Illustration 8-66
Chapter 8-17
Effect of Inventory ErrorsEffect of Inventory ErrorsEffect of Inventory ErrorsEffect of Inventory Errors
LO 3 Identify the effects of inventory errors on the financial LO 3 Identify the effects of inventory errors on the financial statements.statements.
Ending Inventory Misstated
The effect of an error on net income in one year (2009) will be counterbalanced in the next (2010), however the income
statement will be misstated for both years.
Illustration 8-Illustration 8-77
Chapter 8-18
Effect of Inventory ErrorsEffect of Inventory ErrorsEffect of Inventory ErrorsEffect of Inventory Errors
Illustration: Jay Weiseman Corp. understates its ending inventory by $10,000 in 2009; all other items are correctly stated.
Illustration 8-Illustration 8-88
LO 3LO 3
Chapter 8-19
Effect of Inventory ErrorsEffect of Inventory ErrorsEffect of Inventory ErrorsEffect of Inventory Errors
LO 3 Identify the effects of inventory errors on the financial LO 3 Identify the effects of inventory errors on the financial statements.statements.
Purchases and Inventory Misstated
The understatement does not affect cost of goods sold and net income because the errors offset one another.
Illustration 8-Illustration 8-99
Chapter 8-20
Costs Included in InventoryCosts Included in InventoryCosts Included in InventoryCosts Included in Inventory
LO 4 Understand the items to include as inventory cost.LO 4 Understand the items to include as inventory cost.
Product Costs - costs directly connected with bringing the goods to the buyer’s place of business and converting such goods to a salable condition.
Period Costs – generally selling, general, and administrative expenses.
Purchase Discounts – Gross vs. Net Method
Chapter 8-21
Costs Included in InventoryCosts Included in InventoryCosts Included in InventoryCosts Included in Inventory
LO 4 Understand the items to include as inventory cost.LO 4 Understand the items to include as inventory cost.
Treatment of Purchase DiscountsIllustration 8-Illustration 8-
1111
* $4,000 x 2% = $80
*
** $10,000 x 98% = $9,800
**
Solution on notes page
Chapter 8-22
Answer: Method adopted should be one that most clearly reflects periodic income.
Cost Flow Assumption Adopted
does not need to equal
Physical Movement of Goods
Cost Flow Assumption Adopted
does not need to equal
Physical Movement of Goods
FIFO
Which Cost Flow Assumption to Which Cost Flow Assumption to Adopt?Adopt?
Which Cost Flow Assumption to Which Cost Flow Assumption to Adopt?Adopt?
LIFO
Average Cost
Specific Identification
LO 5 Describe and compare the cost flow LO 5 Describe and compare the cost flow assumptions used to account for assumptions used to account for inventories.inventories.
Chapter 8-23
Young & Crazy Company makes the following purchases:
1. One item on 2/2/11 for $10
2. One item on 2/15/11 for $15
3. One item on 2/25/11 for $20
Young & Crazy Company sells one item on 2/28/11 for $90. What would be the balance of ending inventory and cost of goods sold for the month ended Feb. 2011, assuming the company used the FIFO, LIFO, Average Cost, and Specific Identification cost flow assumptions? Assume a tax rate of 30%.
Example
Cost Flow AssumptionsCost Flow AssumptionsCost Flow AssumptionsCost Flow Assumptions
LO 5 Describe and compare the cost flow LO 5 Describe and compare the cost flow assumptions used to account for assumptions used to account for inventories.inventories.
Chapter 8-24
Purchase on 2/2/07 for $10
Purchase on 2/15/07 for $15
Purchase on 2/25/07 for $20
Inventory Balance = $ 45
Young & Crazy CompanyIncome Statement
For the Month of Feb. 2007 Sales $ 90 Cost of goods sold 0 Gross profit 90 Expenses: Administrative 14 Selling 12 Interest 7 Total expenses 33 Income before tax 57 Taxes 17 Net Income $ 40
Cost Flow AssumptionsCost Flow AssumptionsCost Flow AssumptionsCost Flow Assumptions
“First-In-First-Out (FIFO)”
LO 5 Describe and compare the cost flow LO 5 Describe and compare the cost flow assumptions used to account for assumptions used to account for inventories.inventories.
Chapter 8-25
Purchase on 2/2/07 for $10
Purchase on 2/15/07 for $15
Purchase on 2/25/07 for $20
Cost Flow AssumptionsCost Flow AssumptionsCost Flow AssumptionsCost Flow Assumptions
Inventory Balance = $ 35
Young & Crazy CompanyIncome Statement
For the Month of Feb. 2007 Sales $ 90 Cost of goods sold 10 10 Gross profit 80 Expenses: Administrative 14 Selling 12 Interest 7 Total expenses 33 Income before tax 4747 Taxes 14 14 Net Income $ 33 $ 33
“First-In-First-Out (FIFO)”
LO 5 Describe and compare the cost flow LO 5 Describe and compare the cost flow assumptions used to account for assumptions used to account for inventories.inventories.
Chapter 8-26
Purchase on 2/2/07 for $10
Purchase on 2/15/07 for $15
Purchase on 2/25/07 for $20
Inventory Balance = $ 45
Young & Crazy CompanyIncome Statement
For the Month of Feb. 2007 Sales $ 90 Cost of goods sold 0 Gross profit 90 Expenses: Administrative 14 Selling 12 Interest 7 Total expenses 33 Income before tax 57 Taxes 17 Net Income $ 40
Cost Flow AssumptionsCost Flow AssumptionsCost Flow AssumptionsCost Flow Assumptions
“Last-In-First-Out (LIFO)”
LO 5 Describe and compare the cost flow LO 5 Describe and compare the cost flow assumptions used to account for assumptions used to account for inventories.inventories.
Chapter 8-27
Purchase on 2/2/07 for $10
Purchase on 2/15/07 for $15
Cost Flow AssumptionsCost Flow AssumptionsCost Flow AssumptionsCost Flow Assumptions
Inventory Balance = $ 25
Purchase on 2/25/07 for $20
Young & Crazy CompanyIncome Statement
For the Month of Feb. 2007 Sales $ 90 Cost of goods sold 20 20 Gross profit 70 Expenses: Administrative 14 Selling 12 Interest 7 Total expenses 33 Income before tax 37 37 Taxes 11 11 Net Income $ $ 26 26
“Last-In-First-Out (LIFO)”
LO 5 Describe and compare the cost flow LO 5 Describe and compare the cost flow assumptions used to account for assumptions used to account for inventories.inventories.
Chapter 8-28
Purchase on 2/2/07 for $10
Purchase on 2/15/07 for $15
Purchase on 2/25/07 for $20
Inventory Balance = $ 45
Young & Crazy CompanyIncome Statement
For the Month of Feb. 2007 Sales $ 90 Cost of goods sold 0 Gross profit 90 Expenses: Administrative 14 Selling 12 Interest 7 Total expenses 33 Income before tax 57 Taxes 17 Net Income $ 40
Cost Flow AssumptionsCost Flow AssumptionsCost Flow AssumptionsCost Flow Assumptions
“Average Cost”
LO 5 Describe and compare the cost flow LO 5 Describe and compare the cost flow assumptions used to account for assumptions used to account for inventories.inventories.
Chapter 8-29
Purchase on 2/2/07 for $10
Purchase on 2/15/07 for $15
Purchase on 2/25/07 for $20
Inventory Balance = $ 30
Cost Flow AssumptionsCost Flow AssumptionsCost Flow AssumptionsCost Flow Assumptions
Young & Crazy CompanyIncome Statement
For the Month of Feb. 2007 Sales $ 90 Cost of goods sold 15 15 Gross profit 75 Expenses: Administrative 14 Selling 12 Interest 7 Total expenses 33 Income before tax 42 42 Taxes 12 12 Net Income $ $ 3030
“Average Cost”
LO 5 Describe and compare the cost flow LO 5 Describe and compare the cost flow assumptions used to account for assumptions used to account for inventories.inventories.
Chapter 8-30
Purchase on 2/2/07 for $10
Purchase on 2/15/07 for $15
Purchase on 2/25/07 for $20
Inventory Balance = $ 45
Young & Crazy CompanyIncome Statement
For the Month of Feb. 2007 Sales $ 90 Cost of goods sold 0 Gross profit 90 Expenses: Administrative 14 Selling 12 Interest 7 Total expenses 33 Income before tax 57 Taxes 17 Net Income $ 40
Cost Flow AssumptionsCost Flow AssumptionsCost Flow AssumptionsCost Flow Assumptions
“Specific Identification”
LO 5 Describe and compare the cost flow LO 5 Describe and compare the cost flow assumptions used to account for assumptions used to account for inventories.inventories.
Chapter 8-31
Purchase on 2/2/07 for $10
Purchase on 2/15/07 for $15
Purchase on 2/25/07 for $20
Inventory Balance = $ 45
Young & Crazy CompanyIncome Statement
For the Month of Feb. 2007 Sales $ 90 Cost of goods sold 0 Gross profit 90 Expenses: Administrative 14 Selling 12 Interest 7 Total expenses 33 Income before tax 57 Taxes 17 Net Income $ 40
Cost Flow AssumptionsCost Flow AssumptionsCost Flow AssumptionsCost Flow Assumptions
“Specific Identification”
Depends which one is Depends which one is soldsold
LO 5 Describe and compare the cost flow LO 5 Describe and compare the cost flow assumptions used to account for assumptions used to account for inventories.inventories.
Chapter 8-32
Financial Statement SummaryFinancial Statement Summary
FIFO LIFO AverageSales 90$ 90$ 90$ Cost of goods sold 10 20 15
Gross profit 80 70 75 Operating expenses:
Administrative 14 14 14 Selling 12 12 12 Interest 7 7 7
Total expenses 33 33 33 Income before taxes 47 37 42 Income tax expense 14 11 12 Net income 33$ 26$ 30$
Inventory Balance 302535
Cost Flow AssumptionsCost Flow AssumptionsCost Flow AssumptionsCost Flow Assumptions
LO 5 Describe and compare the cost flow LO 5 Describe and compare the cost flow assumptions used to account for assumptions used to account for inventories.inventories.
Chapter 8-33
Cost Flow AssumptionsCost Flow AssumptionsCost Flow AssumptionsCost Flow Assumptions
LO 5LO 5
Illustration: Call-Mart Inc. had the following transactions in its first month of operations.
Beginning inventory (2,000 x $4)
$ 8,000
Purchases:
6,000 x $4.40
26,400
2,000 x 4.75
9,500
Goods available for sale
$43,900
Calculate Goods Available for Sale
Chapter 8-34
Specific IdentificationSpecific IdentificationSpecific IdentificationSpecific Identification
Illustration: Assume that Call-Mart Inc.’s 6,000 units of inventory consists of 1,000 units from the March 2 purchase, 3,000 from the March 15 purchase, and 2,000 from the March 30 purchase. Compute the amount of ending inventory and cost of goods sold. Illustration 8-Illustration 8-
1212
Solution on notes page
Chapter 8-35
Average CostAverage CostAverage CostAverage Cost
LO 5 Describe and compare the cost flow LO 5 Describe and compare the cost flow assumptions used to account for assumptions used to account for inventories.inventories.
Solution on notes page
Illustration 8-Illustration 8-1313
Weighted-Average
Chapter 8-36
Average CostAverage CostAverage CostAverage Cost
LO 5 Describe and compare the cost flow LO 5 Describe and compare the cost flow assumptions used to account for assumptions used to account for inventories.inventories.
Solution on notes page
Illustration 8-Illustration 8-1414
In this method, Call-Mart computes a new average unit cost each time it makes a purchase.
Moving-Average
Chapter 8-37
First-In, First-Out (FIFO)First-In, First-Out (FIFO)First-In, First-Out (FIFO)First-In, First-Out (FIFO)
LO 5 Describe and compare the cost flow LO 5 Describe and compare the cost flow assumptions used to account for assumptions used to account for inventories.inventories.
Solution on notes page
Illustration 8-Illustration 8-1515
Periodic Method
Determine cost of ending inventory by taking the cost of the most recent purchase and working back until it accounts for all units in the inventory.
Chapter 8-38
First-In, First-Out (FIFO)First-In, First-Out (FIFO)First-In, First-Out (FIFO)First-In, First-Out (FIFO)
LO 5 Describe and compare the cost flow LO 5 Describe and compare the cost flow assumptions used to account for assumptions used to account for inventories.inventories.
Solution on notes page
Illustration 8-Illustration 8-1616
Perpetual Method
In all cases where FIFO is used, the inventory and cost of goods sold would be the same at the end of the month whether a perpetual or periodic system is used.
Chapter 8-39
Last-In, First-Out (LIFO)Last-In, First-Out (LIFO)Last-In, First-Out (LIFO)Last-In, First-Out (LIFO)
LO 5 Describe and compare the cost flow LO 5 Describe and compare the cost flow assumptions used to account for assumptions used to account for inventories.inventories.
Solution on notes page
Illustration 8-Illustration 8-1717
Periodic Method
The cost of the total quantity sold or issued during the month comes from the most recent purchases.
Chapter 8-40
Last-In, First-Out (LIFO)Last-In, First-Out (LIFO)Last-In, First-Out (LIFO)Last-In, First-Out (LIFO)
LO 5 Describe and compare the cost flow LO 5 Describe and compare the cost flow assumptions used to account for assumptions used to account for inventories.inventories.
Solution on notes page
Illustration 8-Illustration 8-1818
Perpetual Method
The LIFO method results in different ending inventory and cost of goods sold amounts than the amounts calculated under the periodic method.
Chapter 8-41
Many companies use
LIFO for tax and external financial reporting purposes
FIFO, average cost, or standard cost system for internal reporting purposes.
Reasons:
Special Issues Related to LIFOSpecial Issues Related to LIFOSpecial Issues Related to LIFOSpecial Issues Related to LIFO
LO 6 Explain the significance and use of a LIFO reserve.LO 6 Explain the significance and use of a LIFO reserve.
LIFO Reserve
1. Pricing decisions2. Record keeping easier3. Profit-sharing or bonus arrangements4. LIFO troublesome for interim periods
Chapter 8-42
Special Issues Related to LIFOSpecial Issues Related to LIFOSpecial Issues Related to LIFOSpecial Issues Related to LIFO
LO 6 Explain the significance and use of a LIFO reserve.LO 6 Explain the significance and use of a LIFO reserve.
LIFO Reserve is the difference between the inventory method used for internal reporting purposes and LIFO.
Example:FIFO value per booksFIFO value per books $160,000$160,000
LIFO value LIFO value 145,000145,000
LIFO ReserveLIFO Reserve $ $ 15,00015,000
Cost of goods sold 15,000
Allowance to reduce inventory to LIFO 15,000
Journal entry to reduce inventory to LIFO:
Companies should disclose either the LIFO reserve or the replacement cost of the inventory.
Chapter 8-43
Older, low cost inventory is sold resulting in a lower cost of goods sold, higher net income, and higher taxes.
Special Issues Related to LIFOSpecial Issues Related to LIFOSpecial Issues Related to LIFOSpecial Issues Related to LIFO
LO 7 Understand the effect of LIFO liquidations.LO 7 Understand the effect of LIFO liquidations.
LIFO Liquidation
Illustration: Basler Co. has 30,000 pounds of steel in its inventory on December 31, 2010, with cost determined on a specific goods LIFO approach.
Chapter 8-44
Illustration: At the end of 2011, only 6,000 pounds of steel remained in inventory.
Special Issues Related to LIFOSpecial Issues Related to LIFOSpecial Issues Related to LIFOSpecial Issues Related to LIFO
LO 7 Understand the effect of LIFO liquidations.LO 7 Understand the effect of LIFO liquidations.
LIFO Liquidation
Illustration 8-Illustration 8-2121
Chapter 8-45
Changes in a pool are measured in terms of total dollar value, not physical quantity.
Advantage:
Broader range of goods in pool.
Permits replacement of goods that are similar.
Helps protect LIFO layers from erosion.
Special Issues Related to LIFOSpecial Issues Related to LIFOSpecial Issues Related to LIFOSpecial Issues Related to LIFO
LO 8 Explain the dollar-value LIFO method.LO 8 Explain the dollar-value LIFO method.
Dollar-Value LIFO
Chapter 8-46
Special Issues Related to LIFOSpecial Issues Related to LIFOSpecial Issues Related to LIFOSpecial Issues Related to LIFO
LO 8 Explain the dollar-value LIFO method.LO 8 Explain the dollar-value LIFO method.
Exercise 8-26 (partial): The following information relates to the Choctaw Company.
Use the dollar-value LIFO method to compute the ending inventory for 2007 through 2009.
Dollar-Value LIFO
Chapter 8-47
Special Issues Related to LIFOSpecial Issues Related to LIFOSpecial Issues Related to LIFOSpecial Issues Related to LIFO
LO 8 Explain the dollar-value LIFO method.LO 8 Explain the dollar-value LIFO method.
Inventory at Inventory at $ Value
End- of- Year Base- Year Base $ Value LIFO LIFO
Year Prices Index Prices Layers Index LIFO TOTAL Reserve
2007 70,000$ 1.00 70,000$ 70,000$ 1.00 70,000$ 70,000$ -$
2008 88,200 1.05 84,000 70,000 1.00 70,000
14,000 1.05 14,700 84,700 3,500
2009 95,120 1.16 82,000 70,000 1.00 70,000
12,000 1.05 12,600 82,600 12,520
Dec. 31 Dec. 31 Dec. 31Balance Sheet 2007 2008 2009
I nventory 70,000$ 88,200$ 95,120$ LI FO Reserve - (3,500) (12,520)
70,000$ 84,700$ 82,600$ J ournal entry
Cost of goods sold 3,500 9,020 Lifo reserve (3,500) (9,020)
Exercise 8-26 Solution
Chapter 8-48
Special Issues Related to LIFOSpecial Issues Related to LIFOSpecial Issues Related to LIFOSpecial Issues Related to LIFO
LO 8 Explain the dollar-value LIFO method.LO 8 Explain the dollar-value LIFO method.
Inventory at Inventory at $ Value
End- of- Year Base- Year Base $ Value LIFO LIFO
Year Prices Index Prices Layers Index LIFO TOTAL Reserve
2007 70,000$ 1.00 70,000$ 70,000$ 1.00 70,000$ 70,000$ -$
2008 88,200 1.05 84,000 70,000 1.00 70,000
14,000 1.05 14,700 84,700 3,500
2009 95,120 1.16 82,000 70,000 1.00 70,000
12,000 1.05 12,600 82,600 12,520
Dec. 31 Dec. 31 Dec. 31Balance Sheet 2007 2008 2009
I nventory 70,000$ 88,200$ 95,120$ LI FO Reserve - (3,500) (12,520)
70,000$ 84,700$ 82,600$ J ournal entry
Cost of goods sold 3,500 9,020 Lifo reserve (3,500) (9,020)
Exercise 8-26 Solution
Chapter 8-49
Special Issues Related to LIFOSpecial Issues Related to LIFOSpecial Issues Related to LIFOSpecial Issues Related to LIFO
LO 8 Explain the dollar-value LIFO method.LO 8 Explain the dollar-value LIFO method.
Inventory at Inventory at $ Value
End- of- Year Base- Year Base $ Value LIFO LIFO
Year Prices Index Prices Layers Index LIFO TOTAL Reserve
2007 70,000$ 1.00 70,000$ 70,000$ 1.00 70,000$ 70,000$ -$
2008 88,200 1.05 84,000 70,000 1.00 70,000
14,000 1.05 14,700 84,700 3,500
2009 95,120 1.16 82,000 70,000 1.00 70,000
12,000 1.05 12,600 82,600 12,520
Dec. 31 Dec. 31 Dec. 31Balance Sheet 2007 2008 2009
I nventory 70,000$ 88,200$ 95,120$ LI FO Reserve - (3,500) (12,520)
70,000$ 84,700$ 82,600$ J ournal entry
Cost of goods sold 3,500 9,020 Lifo reserve (3,500) (9,020)
Exercise 8-26 Solution
Chapter 8-50
Specific-goods LIFO - costing goods on a unit basis is expensive and time consuming.
Specific-goods Pooled LIFO approach
reduces record keeping and clerical costs.more difficult to erode the layers.using quantities as measurement basis can lead to untimely LIFO liquidations.
Dollar-value LIFO is used by most companies.
Special Issues Related to LIFOSpecial Issues Related to LIFOSpecial Issues Related to LIFOSpecial Issues Related to LIFO
LO 8 Explain the dollar-value LIFO method.LO 8 Explain the dollar-value LIFO method.
Comparison of LIFO Approaches
Chapter 8-51
Matching
Tax Benefits/Improved Cash Flow
Future Earnings Hedge
Special Issues Related to LIFOSpecial Issues Related to LIFOSpecial Issues Related to LIFOSpecial Issues Related to LIFO
LO 9LO 9 Identify the major advantages and disadvantages of LIFO.Identify the major advantages and disadvantages of LIFO.
Advantages
Reduced earnings
Inventory understated
Physical flow
Involuntary Liquidation / Poor Buying Habits
Disadvantages
Chapter 8-52
LIFO is generally preferred:
1. if selling prices are increasing faster than costs and
2. if a company has a fairly constant “base stock.”
Basis for Selection of Inventory Basis for Selection of Inventory MethodMethod
Basis for Selection of Inventory Basis for Selection of Inventory MethodMethod
LO 10 Understand why companies select given inventory LO 10 Understand why companies select given inventory methods.methods.
LIFO is not appropriate:
1. if prices tend to lag behind costs,
2. if specific identification traditionally used, and
3. when unit costs tend to decrease as production increases.
Chapter 8-53
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