Kế toán, kiểm toán - Chapter 06: Inventories

1 Chapter 6 Inventories 2 1. Define and identify the items included in inventory at the reporting date 2. Determine the costs to be included in the value of inventory 3. Describe the four inventory costing methods and identify the three inventory costing methods that are based on cost flow assumptions 4. Determine the cost of goods sold and ending inventory under the perpetual inventory system for each of the four inventory costing methods Learning objectives 3 5. Compare the financial statement effects of the three inventory cost flow assumptions 6. Explain the characteristics of each inventory costing method 7. Record returns of merchandise using inventory cards for each of the three inventory cost flow assumptions (perpetual inventory) 8. Explain the lower of cost or market (LCM) rule 9. Explain the effect of inventory errors on the financial statements Learning objectives 4 Define and identify the items included in inventory at the reporting date Learning objective 1 5 ▪ Inventory can represent a significant item in the financial statements ▪ Inventory can differ between business types and can include: ▪We focus on merchandise inventory held for sale Defining inventory 6 Business Type Type of inventory held Retailer Merchandise held for sale Wholesaler Merchandise held for sale Manufacturer Raw materials / Supplies Work in process Finished goods (Merchandise held for sale) ▪When inventory is held in the retail store or warehouse of the business it is easy to identify who is to report the goods at the reporting date ▪But what happens when the goods are being delivered from the seller to the buyer at reporting date? ▪Or if the goods are shipped on consignment to an agent to be sold on behalf of the owner? Identifying inventory 7 ▪Party that owns the goods at the reporting date reports them as part of their inventory ▪Ownership determined by shipping terms FOB shipping point: ▪Buyer owns goods and reports them in inventory FOB destination: ▪Seller owns goods and reports them in inventory Goods in transit 8 ▪Goods owned by one party but held by another party who sells the goods on their behalf ▪Consignor (owner) ▪Consignee (agent) ▪Consignor owns the goods and reports them in inventory, even though the consignee may have physical custody of the goods Goods on consignment 9 Determine the costs to be included in the value of inventory Learning objective 2 10 ▪Cost of inventory includes any expenditure incurred, directly or indirectly, in bringing the inventory to the condition and location where it is able to be sold. ▪ Includes: – Purchase price (list price less any trade discount) – Less purchase discounts – Plus incidental costs • transportation charges • import duties • costs incurred to insure the goods while in transit. Determining inventory costs 11 Describe the four inventory costing methods and identify the three inventory costing methods that are based on cost flow assumptions Learning objective 3 12 ▪Consider the situation where a business has a storage container half full of liquid chocolate ▪Next, they purchased more liquid chocolate to fill up the container, purchased at a higher price ▪During the period one third of the liquid chocolate was sold ▪Because the chocolate at the higher price was mixed in with the lower priced chocolate, how do we determine the cost to assign to cost of goods sold (COGS) and ending inventory? Inventory cost flow assumptions 13 ▪There are four inventory costing methods used to assign the cost of goods available for sale to cost of goods sold and ending inventory. – specific identification – first-in, first-out (FIFO) – last-in, first-out (LIFO) – average cost ▪The last three are known as inventory cost flow assumptions because they assume a flow of costs through inventory to COGS Inventory costing methods 14 ▪Assigns the actual purchase cost of the item to COGS and ending inventory ▪As each item is purchased, some form of identification is attached to track the cost of that item from purchase to sale ▪Uses actual costs to calculate: – COGS – Ending inventory Specific identification 15 ▪Assumes the first units purchased are the first units sold ▪Assigns: – Earliest costs to COGS – Most recent costs to ending inventory First-in, first-out (FIFO) 16 ▪Assumes the last units purchased are the first units sold ▪Assigns: – Most recent costs to COGS – Earliest costs to ending inventory Last-in, first-out (LIFO) 17 ▪Assigns an average cost of inventory available for sale to both: – COGS – Ending inventory ▪The average cost method is called the – Moving average method under perpetual inventory – Weighted average method under periodic inventory (Appendix 6A) Average cost 18 Determine the cost of goods sold and ending inventory under the perpetual inventory system for each of the four inventory costing methods Learning objective 4 19 ▪We now illustrate how to calculate the cost of goods sold and ending inventory under the perpetual inventory system for each of the four inventory costing methods using the following data: Illustration of inventory costing methods 20 Purchases Sales Inventory Date Description Units Unit cost Total cost Units Selling price Sales revenues Units Nov. 1 Beginning inventory 50 x $1 = $50 50 7 Purchases 75 x $2 = $150 125 17 Purchases 15 x $3 = $45 140 27 Sales 60 x $5 = $300 80 Specific identification - (perpetual) ▪Of the 60 units sold on November 27, the business specifically identified the number of units sold at each unit cost ▪Allocates actual costs to COGS & ending inventory 21 Units identified as sold, Nov. 27 Units Unit cost Total cost 35 1 35 20 2 40 5 3 15 60 90 Specific identification - (perpetual) 22 Date Purchases Cost of Goods Sold Inventory Balance Units Unit cost Total cost Units Unit cost Total cost Units Unit cost Total cost Nov. 1 50 1 50 7 75 2 150 50 1 50 75 2 150 17 15 3 45 50 1 50 75 2 150 15 3 45 27 35 1 35 15 1 15 20 2 40 55 2 110 5 3 15 10 3 30 Specific identification - (perpetual) ▪Ending inventory = the sum of the items in the inventory balance (total cost) column for the last entry only ▪ COGS = the sum of all items in the cost of goods sold (total cost) column (i.e. all sales) 23 Cost of Goods Sold Inventory Balance Units Unit cost Total cost Units Unit cost Total cost 35 1 35 15 1 15 20 2 40 55 2 110 5 3 15 10 3 30 60 90 80 155 ▪Assumes the first units purchased are the first units sold ▪Assigns: – Earliest costs to COGS – Most recent costs to end inventory First-in, first-out (FIFO) - (perpetual) 24 First-in, first-out (FIFO) - (perpetual) 25 Date Purchases Cost of Goods Sold Inventory Balance Units Unit cost Total cost Units Unit cost Total cost Units Unit cost Total cost Nov. 1 50 1 50 7 75 2 150 50 1 50 75 2 150 17 15 3 45 50 1 50 75 2 150 15 3 45 27 50 1 50 65 2 130 10 2 20 15 3 45 First-in, first-out (FIFO) - (perpetual) ▪Ending inventory = the sum of the items in the inventory balance (total cost) column for the last entry only ▪ COGS = the sum of all items in the cost of goods sold (total cost) column (i.e. all sales) 26 Cost of Goods Sold Inventory Balance Units Unit cost Total cost Units Unit cost Total cost 50 1 50 65 2 130 10 2 20 15 3 45 60 70 80 175 ▪Assumes the last units purchased are the first units sold ▪Assigns: – Most recent costs to COGS – Earliest costs to end inventory Last-in, first-out (LIFO) - (perpetual) 27 Last-in, first-out (LIFO) - (perpetual) 28 Date Purchases Cost of Goods Sold Inventory Balance Units Unit cost Total cost Units Unit cost Total cost Units Unit cost Total cost Nov. 1 50 1 50 7 75 2 150 50 1 50 75 2 150 17 15 3 45 50 1 50 75 2 150 15 3 45 27 15 3 45 50 1 50 45 2 90 30 2 60 Last-in, first-out (LIFO) - (perpetual) ▪Ending inventory = the sum of the items in the inventory balance (total cost) column for the last entry only ▪ COGS = the sum of all items in the cost of goods sold (total cost) column (i.e. all sales) 29 Cost of Goods Sold Inventory Balance Units Unit cost Total cost Units Unit cost Total cost 15 3 45 50 1 50 45 2 90 30 2 60 60 135 80 110 ▪Assigns an average cost of inventory available for sale to both: – COGS – Ending inventory ▪The average cost method is called the moving average method under perpetual inventory because a new average cost of goods available for sale is calculated after each purchase Average cost - (perpetual) 30 Inventory Balance: Nov. 7 = ($50 + $150) ÷ (50 + 75) units = $200 ÷ 125 = $1.60 Nov. 17 = ($200 + $45) ÷ (125 + 15) units = $245 ÷ 140 = $1.75 Average cost - (perpetual) 31 Date Purchases Cost of Goods Sold Inventory Balance Units Unit cost Total cost Units Unit cost Total cost Units Unit cost Total cost Nov. 1 50 1.00 50 7 75 2.00 150 125 1.60 200 17 15 3.00 45 140 1.75 245 27 60 1.75 105 80 1.75 140 Average cost - (perpetual) ▪Ending inventory = the balance reported in the inventory balance (total cost) column for the last entry only ▪ COGS = the sum of all items in the cost of goods sold (total cost) column (i.e. all sales) 32 Cost of Goods Sold Inventory Balance Units Unit cost Total cost Units Unit cost Total cost 60 1.75 105 80 1.75 140 60 105 80 140 Compare the financial statement effects of the three inventory cost flow assumptions Learning objective 5 33 ▪When prices are constant throughout the period each method yields the same results ▪When prices change throughout the accounting period, each method almost always assigns different costs to COGS and ending inventory Financial statement effects 34 Financial statement effects 35 Specific identification FIFO LIFO Moving average Income statement $ $ $ $ Sales Revenues 300 300 300 300 Cost of goods sold 90 70 135 105 Gross profit 210 230 165 195 Expenses 100 100 100 100 Net income 110 130 65 95 Balance sheet Inventory 155 175 110 140 ▪When prices are rising we can generalize the effects on the financial statement items ▪The opposite effect occurs when prices are falling (The effects of the specific identification method can not be generalized. Therefore this method is excluded from the analysis) Financial statement effects 36 FIFO Moving average LIFO Cost of goods sold Lowest Middle Highest Gross profit Highest Middle Lowest Net income Highest Middle Lowest Ending balance of inventory Highest Middle Lowest Explain the characteristics of each inventory costing method Learning objective 6 37 Specific identification: ▪Accurately matches sales revenues to the actual costs incurred to earn those revenues – Reports actual gross profit – Reports actual cost of ending inventory ▪Can be costly to implement Characteristics of costing methods 38 First-in, first-out (FIFO) ▪Ending inventory is reported in the balance sheet closest to its current replacement cost ▪When prices rise: – Reports lower COGS – Reports higher gross profit (and higher net income) – So can overstate income Characteristics of costing methods 39 Last-in, first-out (LIFO) ▪Matches sales revenues to the current costs incurred to earn those revenues ▪Taxation advantages for corporations when prices are rising ▪When prices rise: – Inventory not reported at current replacement costs Characteristics of costing methods 40 Average cost ▪Tends to smooth out net income and inventory ▪Neither cost of goods sold or ending inventory are reported at their current costs ▪Under perpetual inventory, a new average cost is calculated each time a purchase is made, which can be time consuming and difficult to track Characteristics of costing methods 41 Record returns of merchandise using inventory cards for each of the three inventory cost flow assumptions (perpetual inventory) Learning objective 7 42 ▪The perpetual inventory system tracks the movement of inventory at the time it occurs ▪Therefore purchase returns and sales returns must also be tracked at the time of the return ▪But what cost do we use when recording the return? Recording returns 43 ▪The specific identification method uses the actual cost of the items returned for both purchase and sales returns, so will not be illustrated ▪The difficulty is deciding what cost to record the return under the three inventory cost flow assumptions – FIFO – LIFO – Moving average ▪Let’s start with purchase returns Recording returns 44 ▪Purchase returns are always recorded using the actual value of the refund, regardless of the cost flow assumption ▪The return is to be recorded as a negative entry into the Purchases column for all inventory cost flow assumptions Purchase returns 45 For example: ▪A business purchased 300 units at $2 each on November 5 ▪The business then returned 100 of these units purchased at $2 on November 8 Purchase returns 46 FIFO purchase return 47 Date Purchases Cost of Goods Sold Inventory Balance Units Unit cost Total cost Units Unit cost Total cost Units Unit cost Total cost Nov. 1 450 1 450 5 300 2 600 450 1 450 300 2 600 6 150 1 150 300 1 300 300 2 600 8 (100) 2 (200) 300 1 300 200 2 400 LIFO purchase return 48 Date Purchases Cost of Goods Sold Inventory Balance Units Unit cost Total cost Units Unit cost Total cost Units Unit cost Total cost Nov. 1 450 1 450 5 300 2 600 450 1 450 300 2 600 6 150 2 300 450 1 450 150 2 300 8 (100) 2 (200) 450 1 450 50 2 100 ▪A new moving average cost is calculated after each purchase and after each purchase return Moving average purchase return 49 Date Purchases Cost of Goods Sold Inventory Balance Units Unit cost Total cost Units Unit cost Total cost Units Unit cost Total cost Nov. 1 450 1.00 450 5 300 2.00 600 750 1.40 1050 6 150 1.40 210 600 1.40 840 8 (100) 2.00 (200) 500 1.28 640 ▪Sales returns are recorded following the same inventory cost flow assumption used in their original sale ▪The return is to be recorded as a negative entry into the Cost of Goods Sold column for all inventory costing methods Sales returns 50 For example: ▪A different business sold 195 units on November 13 ▪The customer then returned 100 of these units on November 19 ▪Each cost flow assumption will record a different value for cost of goods sold for the sale and for the sales return Sales returns 51 ▪FIFO assumes that the cost of the goods returned are the most recent costs assigned to inventory when the sale was made FIFO sales return 52 FIFO sales return 53 Date Purchases Cost of Goods Sold Inventory Balance Units Unit cost Total cost Units Unit cost Total cost Units Unit cost Total cost Nov. 1 120 3 360 180 4 720 13 120 3 360 105 4 420 75 4 300 18 385 5 1925 105 4 420 385 5 1925 19 (75) 4 (300) 25 3 75 (25) 3 (75) 180 4 720 385 5 1925 ▪LIFO assumes the cost of the goods returned to be the oldest costs assigned to the goods at the time the sale was made LIFO sales return 54 LIFO sales return 55 Date Purchases Cost of Goods Sold Inventory Balance Units Unit cost Total cost Units Unit cost Total cost Units Unit cost Total cost Nov. 1 120 3 360 180 4 720 13 180 4 720 105 3 315 15 3 45 18 385 5 1925 105 3 315 385 5 1925 19 (15) 3 (45) 120 3 360 (85) 4 (340) 85 4 340 385 5 1925 ▪The moving average method records the sales return at the moving average cost of the inventory at the time of the return rather than at the time of the original sale Moving average sales return 56 Moving average sales return 57 Date Purchases Cost of Goods Sold Inventory Balance Units Unit cost Total cost Units Unit cost Total cost Units Unit cost Total cost Nov. 1 300 3.60 1080 13 195 3.60 702 105 3.60 378 18 385 5.00 1925 490 4.70 2303 19 (100) 4.70 (470) 590 4.70 2773 Explain the lower of cost or market (LCM) rule Learning objective 8 58 ▪ Inventories are initially accounted for on a cost basis ▪ Inventories may subsequently be valued at less than cost if: – Purchase price decreases – Can not sell goods at normal selling prices – Damaged goods – Obsolete goods ▪To test if this is the case, businesses are required to apply the lower of cost or market (LCM) rule Lower of cost or market rule 59 ▪The lower of cost or market (LCM) rule requires inventories to be reported at current market value when the market value is lower than the cost recorded for the item Lower of cost or market rule 60 ▪The market value of an item is defined as the current replacement cost of the inventory item provided that: a) market value is not to be greater than net realizable value b) market value is not to be lower than the net realizable value less an allowance for a normal profit margin ▪The net realizable value of an item is the selling price less costs incurred to sell the item Lower of cost or market rule 61 ▪The lower of cost or market rule can be applied to one of the following: 1. Items 2. Categories 3. Entire balance ▪Each of the three methods results in a different amount to be reported in ending inventory and a different loss recognized in the income statement ▪See your textbook for a detailed example Lower of cost or market rule 62 ▪Calculate the amount to be adjusted – (Current cost – Market value) ▪Record the journal entry ▪ fds ▪Alternatively, a specific account can be debited, such as Loss on Write-Down of Inventory Date Account and explanation PostRef. Debit Credit 2011 Nov. 30 Cost of Goods Sold 2,000 Inventory 2,000 (To adjust inventory from cost to market value.) Journal entry to adjust inventory to LCM 63 ▪The written down value becomes the new cost of the item for subsequent accounting periods ▪Even if the market value of the goods rises in subsequent accounting periods, the goods are not to be revalued upward to the old higher cost ▪This is consistent with the lower of cost or market rule Lower of cost or market 64 Explain the effect of inventory errors on the financial statements Learning objective 9 65 ▪ Inventory errors can occur in many ways, e.g. – Taking inventory – Using an inventory costing method – Applying the lower of cost or market rule – Transcription errors ▪Affects both the income statement and the balance sheet Effects of inventory errors 66 Income statement: ▪Affects the current period, and has an equal and opposite effect in the following period – ending balance of inventory is used in determining COGS – ending balance of inventory in one period becomes the opening balance of inventory in the following period ▪Affects: – Cost of goods sold – Gross profit – Net income Effects of inventory errors 67 Balance sheet: ▪Affects the current period only ▪Affects: – Inventory Effects of inventory errors 68