Chapter 6 - Inventory Valuation1 INVENTORY – Chapt 6. p.277-284 BALANCE SHEET Biggest Asset...
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Transcript of Chapter 6 - Inventory Valuation1 INVENTORY – Chapt 6. p.277-284 BALANCE SHEET Biggest Asset...
Chapter 6 - Inventory Valuation 1
INVENTORY – Chapt 6. p.277-284
BALANCE SHEET
Biggest AssetInventory
see example
How can an inventory item be both raw materials and finished goods at the same time?
INCOME STATEMENT
Biggest ExpenseCOGS
Manufacturer inventoryRaw MaterialsWork in Progress (WIP)Finished Goods
Chapter 6 - Inventory Valuation 2
The Audiophile sells high end stereo equipment. Windsor Acoustics recently introduced the Carnegie 440, a state of the art speaker system. During the current year the Audiophile purchase 9 of these speaker systems at the following dates and acquisition costs:
Chapter 6 - Inventory Valuation 3
The problem is that acquisition costs change so how is inventory evaluated?
Date Units Purchased
Unit Cost Total Cost
Oct 1 2 3000 6000
Nov 17 3 3200 9600
Dec 1 4 3250 13000
Total 9 Average cost = $3177.78
28600
Chapter 6 - Inventory Valuation 4
AVERAGE COSTAVERAGE COSTAVERAGE COSTAVERAGE COST
• The average cost method assumes that the goods available for sale are homogeneous.
• The allocation of the cost of goods available for sale is made on the basis of the weighted average unit cost incurred.
• The weighted average unit cost is then applied to the units sold to determine the cost of goods sold and to the units on hand to determine the ending inventory.
Chapter 6 - Inventory Valuation 5
Allocation of the cost of goods available for sale in average cost method is made on the
basis of the weighted average unit cost
Chapter 6 - Inventory Valuation 6
Average cost method assumes that goods available for sale
are homogeneous
Chapter 6 - Inventory Valuation 7
On November 21, The Audiophile sold 4 of these speaker systems to the Hamilton Symphony for $5000 per unit. At
December 31, the other 5 sets remained in inventory.
Compute the COGS and the ending inventory value based on the average inventory costs:
Cash 20,000Revenue 20,000
COGS 12480Inventory 12480
Sale 4 Carnegie speaker systems to Hamilton SymphonyInventory value (ave. cost @ Nov 21) = 15600/5 = $3120
Value of remaining inventory is:28600 – 12480 = 16120
Chapter 6 - Inventory Valuation 8
The problem is that acquisition costs change so how is inventory evaluated?
Date Units Purchased
Unit Cost Total Cost
Oct 1 2 3000 6000
Nov 17 3 3200 9600
Dec 1 4 3250 13000
Total 9 28600
Chapter 6 - Inventory Valuation 9
FIFO = FIFO = first in first outfirst in first outFIFO = FIFO = first in first outfirst in first out• The FIFO method assumes that the earliest
goods purchased are the first to be sold.• Often reflects the actual physical flow of
merchandise.• Under FIFO, the costs of the earliest goods
purchased are the first to be recognized as cost of goods sold. The costs of the most recent goods purchased are recognized as the ending inventory.
Chapter 6 - Inventory Valuation 10
FIFO method assumes earliest goods purchased
are the first to be sold
Chapter 6 - Inventory Valuation 11
On November 21, The Audiophile sold 4 of these speaker systems to the Hamilton Symphony for $5000 per unit. At
December 31, the other 5 sets remained in inventory.
Compute the COGS and the ending inventory value based on the “First In –First Out” (FIFO) inventory cost:
Cash 20,000Revenue 20,000
COGS 12400Inventory 12400
Sale 4 Carnegie speaker systems to Hamilton SymphonyInventory value (FIFO @ Nov 21)
= 2@ $3000 + 2 @3200 = $12400Value of remaining inventory is:
28600 – 12400 = 16200
Chapter 6 - Inventory Valuation 12
Average vs. FIFO
Average FIFO
Income Statement
Slightly higher COGS exp.
lower profit lower taxes
Lower COGS exp.
Higher profit
Balance Sheet Lower ending inventory values
Higher remaining inventory value
Average FIFO
Income Statement
Balance Sheet
Chapter 6 - Inventory Valuation 13
LIFOLIFO
• The LIFO method assumes that the latest goods purchased are the first to be sold and that the earliest goods purchased remain in ending inventory.
• Seldom coincides with the actual physical flow of inventory.
• Under the periodic method, all goods purchased during the year are assumed to be available for the first sale, regardless of date of purchase.
• Rarely used in Canada.
Chapter 6 - Inventory Valuation 14
LIFO method assumes latest goods purchased are the first
to be sold
Chapter 6 - Inventory Valuation 15
On November 21, The Audiophile sold 4 of these speaker systems to the Hamilton Symphony for $5000 per unit. At
December 31, the other 5 sets remained in inventory.
Compute the COGS and the ending inventory value based on the “Last In – First Out” (LIFO) inventory costs:
Cash 20,000Revenue 20,000
COGS 12600Inventory 12600
Sale 4 Carnegie speaker systems to Hamilton SymphonyInventory value (LIFO @ Nov 21)
= 3@ $3200 + 1@3000 = $12600Value of remaining inventory is:
28600 – 12600 = 16,000
Chapter 6 - Inventory Valuation 16
USING INVENTORY COST FLOW USING INVENTORY COST FLOW METHODS CONSISTENTLYMETHODS CONSISTENTLY
USING INVENTORY COST FLOW USING INVENTORY COST FLOW METHODS CONSISTENTLYMETHODS CONSISTENTLY
• A company needs to use its chosen cost flow method consistently from one accounting period to another.
• Such consistent application enhances the comparability of financial statements over successive time periods.
• When a company adopts a different cost flow method, the change and its effects on net income should be disclosed in the financial statements.