Reporting and Analyzing

Inventories
What is Inventory?
 Asset items held for sale in the
ordinary course of business, or
 Goods that will be used or consumed
in the production of goods or services
to be sold.
Supplies
 Tangible items that will be consumed
in the course of normal operations.
 E.g., office and janitorial supplies,
lubricants, repair parts.
 Will be consumed, not sold as
merchandise.
 Therefore, not accounted for as part of
inventory or cost of goods sold.
 Determining Inventory Costs

Include all expenditures necessary to bring an

item to a salable condition and location.

Minus
Discounts Invoice Plus
and
Allowances
Cost Insurance

Plus Import Plus Plus

Tariffs Freight Storage
5-4
Internal Controls and Taking a Physical
Count

 Most companies take

a physical count of
inventory at least once
each year.

 When the physical Inv

e
Cou ntory
count does not match n
Qua t Tag
nt
the Merchandise Cou ity
nte
d_
Inventory account, an C ou
by n te
__
adjustment must be ___ d
___
_
made.

5-5
 Inventory Costing Under a Periodic
System

Accounting for
inventory  Costing Method
requires several
 Specific Identification, FIFO, LIFO,
decisions . . . or Weighted Average

 Inventory System
 Perpetual or Periodic

5-6
P1
Inventory Cost Flow Assumptions
Specific Specific Purchase and
Identification invoice

First-In, First-Out Assumes costs flow in the

(FIFO) order incurred.

Last-In, First-Out Assumes costs flow in the

(LIFO) reverse order incurred.

Weighted Assumes costs flow at an

Average average of the costs
available.

5-7
P1 Inventory Costing Illustration
Example: Trekking Company inventory information

Cost of Goods Available for Sale

Aug. 1 Beg. Inventory 10 units @ $ 91 = $ 910
Aug. 3 Purchased 15 units @ $ 106 = $ 1,590
Aug. 17 Purchased 20 units @ $ 115 = $ 2,300
Aug. 28 Purchased 10 units @ $ 119 = $ 1,190

Retail Sales of Goods

Aug. 14 Sales 20 units @ $ 130 = $ 2,600
Aug. 31 Sales 23 units @ $ 150 = $ 3,450

5-8
P1
Specific Identification

Total cost of 55 units available for sale $5,990

Cost of goods sold:
Aug 14 (8 @ $91) + (12 @ $106) $2,000
Aug 31 (2 @ $91) + (3@ $106) + (15@ $115) + (3 @ $119) 2,582 4,582
Ending inventory $1,408

On August 14, Trekking sold 8 bikes costing $91 and 12

bikes costing $106. On August 31, Trekking sold 23 bikes:
2 units costing $91; 3 units costing $106; 15 units costing
$115 and 3 units costing $119.

5-9
All in one
P1
First-In, First-Out (FIFO)
Total cost of 55 units available for sale $5,990

Less ending inventory priced using FIFO:

10 units from Aug 28 purchase at $119 $1,190

2 units from Aug 17 purchase at $115 230

Ending inventory 1,420

Cost of goods sold $4,570

During August, Trekking had a total of 55 units available for

sale. They had 12 units in ending inventory and sold 43
units. The cost of the 12 bikes in ending inventory will be
valued using the most recent purchases since the earlier
units are assumed sold under FIFO.
5-11
P1
Last-In, First-Out (LIFO)
Total cost of 55 units available for sale $5,990

Less ending inventory priced using LIFO:

10 units from Aug 1 beginning inventory $91 $ 910

2 units from Aug 3 purchase at $106 212

Ending inventory 1,122

Cost of goods sold $4,868

During August, Trekking had a total of 55 units available

for sale. They had 12 units in ending inventory and sold
43 units. The cost of the 12 bikes in ending inventory will
be valued using the earliest purchases since the most
recently purchased units are assumed sold under LIFO.
5-12
P1
Weighted Average

When a unit is sold, the

average cost of each unit
in inventory is assigned
to cost of goods sold.

Cost of goods
available for ÷ Total units in
sale inventory

5-13
P1
Weighted Average
Figuring Cost of Goods Sold
10 units @ $91 $ 910
Step 1 15 units @ 106 1,590
20 units @ 115 2,300
10 units @ 119 1,190
55 $5,990
$5,990 / 55 units $108.91 weighted
Step 2 average cost per unit

Step 3 Total cost of 55 units available for sale $5,990

Less ending inventory:12 units at $1,307
$108.91
Cost of goods sold $4,683

5-14
A1 Financial Statement Effects of Costing
Methods

Because prices change, inventory methods nearly

always assign different cost amounts.
TREKKING COMPANY
For Month Ended August 31
Specific Weighted
Income Statement: Identification FIFO LIFO Average
Sales $ 6,050 $ 6,050 $ 6,050 $ 6,050
Cost of goods sold 4,582 4,570 4,868 4,683
Gross profit 1,468 1,480 1,182 1,367
Operating expenses 450 450 450 450
Income before taxes $ 1,018 $ 1,030 $ 732 $ 917
Income tax expense (30%) 305 309 220 275
Net income $ 713 $ 721 $ 512 $ 642
Balance Sheet:
Inventory $ 1,408 $ 1,420 $ 1,122 $ 1,307

5-15
A1 Financial Statement Effects of Costing
Methods

Advantages of Methods

Weighted First-In, Last-In,

Average First-Out First-Out

Ending inventory Better matches

Smoothes out approximates current costs in
price changes. current cost of goods sold
replacement cost. with revenues.
5-16
A1 Consistency in Using Costing
Methods
The consistency concept requires a
company to use the same
accounting methods period after
period so that financial statements
are comparable across periods.

5-17
P2
Lower of Cost or Market

Inventory must be reported at market

value when *market is lower than
cost.

*Market is defined LCM can be applied three

as current ways:
replacement cost (1) separately to each
(not sales price). individual item.
Consistent with (2) to major categories of
the conservatism items.
constraint. (3) to the whole inventory.
5-18
A2
Financial Statement Effects of Inventory
Errors

Income Statement Effects

Inventory Error Cost of Goods Sold Net Income
Understate ending inventory Overstated Understated
Understate beginning inventory Understated Overstated
Overstate ending inventory Understated Overstated
Overstate beginning inventory Overstated Understated

My ending
Well, that messed
inventory count
up my reported
was understated!
income!

5-19
 A2 Financial Statement Effects of Inventory
Errors

Balance Sheet Effects

Inventory Error Assets Equity
Understate ending inventory Understated Understated
Overstate ending inventory Overstated Overstated

5-20