Tài chính doanh nghiệp - Chapter 8: Inventories

Chapter 8INVENTORIESPresenter’s namePresenter’s titledd Month yyyycosts included in inventoriesCosts included in Inventories and recognized as expenses when goods are sold:Costs of purchase, e.g.purchase price, net of discountsimport duties and taxestransport and handlinginsurance during transportCosts of conversion Other costs incurred in bringing the inventories to their present location and conditionCosts excluded from Inventories and recognized as expenses in period incurred:Abnormal costs incurred as a result of waste of materials, labor or other production conversion inputs Storage costs (unless required as part of the production process)All administrative overhead and selling costsCopyright © 2013 CFA Institute2costs included in inventories: exampleAssume that during a year, a table manufacturing company produced 900,000 finished tables incurring raw material costs of €9 million,direct labour conversion costs of €18 million, andproduction overhead costs of €1.8 million. scrapped 1,000 tables (attributable to abnormal waste) incurringraw material costs of €10,000 and labor and overhead conversion costs of €20,000.spent €1 million for freight delivery charges on raw materials and€500,000 for storing the finished goods as inventory. The company does not have any work-in-progress inventory at year end.What costs should be expensed in the period incurred?What costs should be included in inventory and expensed when the goods are sold?Copyright © 2013 CFA Institute3costs included in inventories: exampleAssume that during a year, a table manufacturing company produced 900,000 finished tables incurring raw material costs of €9 million,direct labour conversion costs of €18 million, andproduction overhead costs of €1.8 million. scrapped 1,000 tables (attributable to abnormal waste) incurringraw material costs of €10,000 and labor and overhead conversion costs of €20,000.spent €1 million for freight delivery charges on raw materials and€500,000 for storing the finished goods as inventory.What costs should be expensed in the period incurred?Copyright © 2013 CFA Institute4Total costs that should be expensed€30,000500,000€530,000costs included in inventories: exampleAssume that during a year, a table manufacturing company produced 900,000 finished tables incurring raw material costs of €9 million,direct labour conversion costs of €18 million, andproduction overhead costs of €1.8 million. scrapped 1,000 tables (attributable to abnormal waste) incurringraw material costs of €10,000 and labor and overhead conversion costs of €20,000.spent €1 million for freight delivery charges on raw materials and€500,000 for storing the finished goods as inventory. The company does not have any work-in-progress inventory at year end.What costs should be included in inventory and expensed when the goods are sold?Copyright © 2013 CFA Institute5Total inventory costs €9,000,00018,000,0001,800,0001,000,000€29,800,000Inventory cost flowGoodsPurchasedBeginningInventoryGoodsAvailableForSaleEndingInventoryCost ofGoods SoldBalance SheetIncome StatementCopyright © 2013 CFA Institute6Summary Table on Inventory valuation Methods Method DescriptionSpecific IdentificationActual costs of items specifically identified as sold allocated to COGS. FIFO (First in-First out)Assumes that earliest items purchased were sold first. First in to inventory = first out to COGS.LIFO (Last In-First Out)*Assumes most recent items purchased were sold first. Last in to inventory = first out to COGS.Weighted Average CostAverages total costs over total units available.Copyright © 2013 CFA Institute7*LIFO not permitted under IFRSInventory valuation Methods: Specific identificationCopyright © 2013 CFA Institute8100 kg @ ¥110/kg200 kg @ ¥100/kg300 kg @ ¥90/kgPurchasesGoods Available600 kg @ ¥58,000 total Sales: 520 kg @ ¥240/kg Cost of Goods Sold100 kg @ ¥110/kg180 kg @ ¥100/kg240 kg @ ¥90/kg520 kg @ ¥50,60020 kg @ ¥100/kg60 kg @ ¥90/kg80 kg @ ¥7,400Ending inventory (cost)Total = 600 kg @ ¥58,000 Inventory valuation Methods: weighted average costCopyright © 2013 CFA Institute9100 kg @ ¥110/kg200 kg @ ¥100/kg300 kg @ ¥90/kgPurchasesGoods Available600 kg @ ¥58,000 total. AVERAGE ¥96.667/kg Sales: 520 kg @ ¥240/kg Cost of Goods Sold520 kg @ ¥96.667/kg= ¥50,26780 kg @ ¥96.667/kg= ¥7,733Ending inventory (cost)Total = 600 kg @ ¥58,000 Inventory valuation Methods: fifoCopyright © 2013 CFA Institute10100 kg @ ¥110/kg200 kg @ ¥100/kg300 kg @ ¥90/kgPurchasesGoods Available600 kg @ ¥58,000 total Sales: 520 kg @ ¥240/kg Cost of Goods Sold100 kg @ ¥110/kg200 kg @ ¥100/kg220 kg @ ¥90/kg520 kg @ ¥50,80080 kg @ ¥90/kg80 kg @ ¥7,200Ending inventory (cost)Total = 600 kg @ ¥58,000 Inventory valuation Methods: LifoCopyright © 2013 CFA Institute11100 kg @ ¥110/kg200 kg @ ¥100/kg300 kg @ ¥90/kgPurchasesGoods Available600 kg @ ¥58,000 total Sales: 520 kg @ ¥240/kg Cost of Goods Sold20 kg @ ¥110/kg200 kg @ ¥100/kg300 kg @ ¥90/kg520 kg @ ¥49,20080 kg @ ¥110/kg80 kg @ ¥8,800Ending inventory (cost)Total = 600 kg @ ¥58,000 Inventory valuation Methods: summaryCopyright © 2013 CFA Institute12Inventory Valuation MethodSpecific IDWeighted Average CostFIFOLIFOCost of sales50,60050,26750,80049,200Ending inventory7,4007,7337,2008,800Goods available for sale58,00058,00058,00058,000Gross profit74,20074,53374,00075,600periodic and perpetual inventory systemsPeriodic inventory system: inventory values and costs of sales are determined at the end of an accounting period. Purchases are recorded in a purchases account. The total of purchases and beginning inventory is the amount of goods available for sale during the period. The ending inventory amount is subtracted from the goods available for sale to arrive at the cost of sales. The quantity of goods in ending inventory is usually obtained or verified through a physical count of the units in inventory. Perpetual inventory system: inventory values and cost of sales are continuously updated to reflect purchases and sales.Copyright © 2013 CFA Institute13periodic and perpetual inventory systems: examplePurchasedSoldRemainingUnitsCostUnitsUnitsCOGS - perpetualJan100$110100Apr8020=80@$110 = $8,800July200$100220Nov100120=100 @$100 = $10,000COGS =$8,800+$10,000=$18,800 Copyright © 2013 CFA Institute14Cost of Goods Sold Using LIFO valuation method Perpetual versus Periodic Inventory Systemsperiodic and perpetual inventory systems: examplePurchasedSoldRemainingUnitsCostUnitsUnitsCOGS -periodicJan100$110100Apr8020NAJuly200$100220Nov100120NAGoods available= 0+ 100 *$110 + 200*$100 =$31,000Ending inventory= 100 *$110 + 20*$100 = $13,000COGS= $31,000 - $13,000 = $18,000Copyright © 2013 CFA Institute15Cost of Goods Sold Using LIFO valuation method Perpetual versus Periodic Inventory Systemseffects of inflation of inventory costs on the financial statements Copyright © 2013 CFA Institute16TimeCostsFIFO: Earlier, lower costs in COGSFIFO: Later, higher costs in inventoryPeriod endFIFOLifo reserveLIFO reserve is the difference between inventory amount as reported using LIFO and the inventory amount that would have been reported using FIFO.FIFO inventory value - LIFO inventory value = LIFO reserve.Companies using the LIFO method must disclose the amount of the LIFO reserve. An analyst can use the disclosure to adjust a company’s reported cost of goods sold and ending inventory from LIFO to FIFO.Copyright © 2013 CFA Institute17Lifo reserve example: disclosureInventoriesInventories are stated at the lower of cost or market. Cost is principally determined using the last-in, first-out (LIFO) method. The value of inventories on the LIFO basis represented about 70% of total inventories at December 31, 2008 and about 75% of total inventories at December 31, 2007 and 2006.If the FIFO (first-in, first-out) method had been in use, inventories would have been $3,183 million, $2,617 million and $2,403 million higher than reported at December 31, 2008, 2007 and 2006, respectively.Caterpillar Inc. 2008 Annual ReportNote 1. D.Copyright © 2013 CFA Institute18Lifo reserve example: adjust inventoryCaterpillar disclosed: “If the FIFO (first-in, first-out) method had been in use, inventories would have been $3,183 million, $2,617 million and $2,403 million higher than reported on December 31, 2008, 2007 and 2006, respectively.”Caterpillar’s balance sheet shows inventories of $8,781 million, $7,204 million, and $6,351 million, at December 31, 2008, 2007, and 2006, respectively.Adjust inventory from LIFO to FIFO by adding the amount of the LIFO reserve to the reported inventory.Copyright © 2013 CFA Institute1931 December ($ millions)200820072006Total inventories as reported (LIFO)8,7817,2046,351From Note 1. D disclosure (LIFO reserve)3,1832,6172,403Total inventories adjusted (FIFO)11,9649,8218,754Lifo reserve example: adjust Cost of goods soldCaterpillar disclosed: “If the FIFO (first-in, first-out) method had been in use, inventories would have been $3,183 million, $2,617 million and $2,403 million higher than reported at December 31, 2008, 2007 and 2006, respectively.”Caterpillar’s income statement shows Cost of Goods Sold of $38,415 million and $32,626 million for the years ending December 31, 2008 and 2007, respectively.Adjust Cost of Goods Sold from LIFO to FIFO by deducting the amount of change in LIFO reserve.Copyright © 2013 CFA Institute2031 December ($ millions)20082007Cost of goods sold as reported (LIFO)38,41532,626 Less: Increase in LIFO reserve*−566−214Cost of goods sold as adjusted (FIFO)37,84932,412Lifo reserve example: adjust net incomeCaterpillar disclosed: “If the FIFO (first-in, first-out) method had been in use, inventories would have been $3,183 million, $2,617 million and $2,403 million higher than reported at December 31, 2008, 2007 and 2006, respectively.”Caterpillar’s income statement shows net Income of $3,557 million and $32,626 million for the years ending December 31, 2008 and 2007, respectively.Caterpillar’s effective tax rates were approximately 20% for 2008 and 30% for 2007 and earlier.Adjust net income from LIFO to FIFO by incorporating the adjustment in Cost of Goods Sold (COGS), on an after-tax basis. Copyright © 2013 CFA Institute2131 December ($millions )20082007Net income as reported (LIFO)3,5573,541Reduction in COGS (increase in operating profit)566214Taxes on increased operating profit −113−64Net income as adjusted (FIFO)4,0103,691Lifo reserve example: adjust liabilities and equityCaterpillar disclosed: “If the FIFO (first-in, first-out) method had been in use, inventories would have been $3,183 million, $2,617 million and $2,403 million higher than reported at December 31, 2008, 2007 and 2006, respectively.”Caterpillar’s December 31, 2008 balance sheet shows total liabilities of $61,171 million, and total equity of $6,087 million.Caterpillar’s effective tax rates were approximately 20% for 2008 and 30% for 2007 and earlier.Adjust liabilities from LIFO to FIFO by incorporating a tax liability for the amount of accumulated tax savings over the years. Adjust equity by including the cumulative after-tax gross profits.Copyright © 2013 CFA Institute2231 December ($millions )2008Liabilities as reported (LIFO)$61,171Accumulated deferred taxes$898Liabilities as adjusted (FIFO)$62,06931 December ($millions )2008Equity as reported (LIFO)$6,087Retained earnings$2,285Equity as adjusted (FIFO)$8,372Comparative ratiosLIFOFIFOInventory turnover4.813.47= 38,415 ÷ [(8,781 + 7,204) ÷ 2]= 37,849 ÷ [(11,964 + 9,821) ÷ 2]Gross profit margin20.04%21.22%= [(48,044 – 38,415) ÷ 48,044]= [(48,044 – 37,849) ÷ 48,044]Net profit margin6.93%7.81%= (3,557 ÷ 51,324)= (4,010 ÷ 51,324]Copyright © 2013 CFA Institute23Calculate Caterpillar’s Inventory Turnover, Gross Profit margin, and Net Profit margin for 2008 under the LIFO and FIFO methods. Caterpillar’s 2008 revenues were $48,044 million from machinery sales and $3,280 from financial products. Comparative ratios LIFOFIFOCurrent ratio1.211.34= (31,633 ÷ 26,069) = [(31,633 + 3,183) ÷ 26,069]Total liabilities-to-equity ratio10.057.41= (61,171 ÷ 6,087) = [(61,171 +898) ÷ (6,087 + 2,285)] Copyright © 2013 CFA Institute24Calculate Caterpillar’s Current Ratio and Total liabilities-to-equity for 2008 under the LIFO and FIFO methods. In 2008, Caterpillar reported $31,633 million current assets, $26,069 million current liabilities, 61,171 million total liabilities, and $6,087 million total equity.LIFO liquidation Copyright © 2013 CFA Institute25Units in to inventory:Purchase or ManufactureUnits out of inventory:SalesWhen the number of inventory units manufactured or purchased in a period exceeds the number of units sold, the LIFO reserve may increase with each increase in quantity creating a new LIFO “layer.”InventoryLIFO liquidation Copyright © 2013 CFA Institute26Units in to inventory:Purchase or ManufactureUnits out of inventory:SalesWhen the number of units sold in a period exceeds the number of units purchased or manufactured, the costs from older LIFO layers will flow to COGS (some of the older units held in inventory are assumed to have been sold), called “LIFO liquidation.” InventoryExample: LIFO layers and LIFO liquidationAssume a three year scenario during which a company’s cost of goods increased by $1 per unit each year from $5 to $6 to $7.priced its goods to achieve a 50% gross profit per unit (i.e. 100% markup).In years 1 and 2, the company buys 10,000 units but sells only 9,000 units. In year 3, the company buys 8,000 units, sells 10,000.Copyright © 2013 CFA Institute27Example: LIFO layers and LIFO liquidationThe ending inventory includes a “layer” of old costs at $5 per unit x 1,000 units and another “layer” of costs at $6 per unit x 1,000.Copyright © 2013 CFA Institute28Example: LIFO layers and LIFO liquidationIn Year 3, the old layers at $5 from Year 1 and $6 from Year 2 flow to cost of goods soldUnitsCost per unitTotal costsBeginning inventory0Units purchased 10,000 $5 $50,000 Units sold9,000$5 $45,000 Ending inventory Year 1 1,000 $5,000 Beginning inventory Year 2 1,000 - $ 5,000 Units purchased10,000$6 $60,000 Units sold9,000$6 $54,000 Ending inventory Year 22,000$11,000 Beginning inventory Year 32,000$11,000 Units purchased8,000$7 $56,000 Units sold10,000$67,000 Ending inventory Year 300Copyright © 2013 CFA Institute29Example: LIFO layers and LIFO liquidationCopyright © 2013 CFA Institute30YearRevenue per unitTotal revenueCOGSGross profitGross margin1$10$ 90,000 $ 45,000 $ 45,000 50%2$12 $ 108,000 $ 54,000 $ 54,000 50%3$14 $ 140,000 $ 67,000 $ 73,000 52%Inventory adjustmentsInventory is measured and carried on the balance sheet at the lower of cost of market.IFRS: Lower of cost or net realizable valueSubsequent reversals allowed U.S. GAAP: Lower of cost or market, defined as current replacement cost subject to upper and lower limitsUpper limit of market: net realizable value Lower limit of market: net realizable value less a normal profit marginSubsequent reversals prohibitedCopyright © 2013 CFA Institute31Inventory adjustmentsCopyright © 2013 CFA Institute32The Volvo Group reported: Total inventories (net of allowance) at year end 2008 and 2007, respectively, as reported on Balance Sheet: SEK 55,045 million and SEK 43,645 million.Cost of sales for 2008, as reported on Income Statement: SEK 237,578Allowance for inventory obsolescence at year end 2008 and 2007, respectively, as disclosed in footnote: SEK 3,522 million and SEK 2,837 millionCompare inventory turnoverUsing numbers reportedAssuming all past inventory write downs were reversed in 2008.Inventory adjustmentsCopyright © 2013 CFA Institute33The Volvo Group reported: Total inventories (net of allowance) at year end 2008 and 2007, respectively, as reported on Balance Sheet: SEK 55,045 million and SEK 43,645 million.Cost of sales for 2008, as reported on Income Statement: SEK 237,578Allowance for inventory obsolescence at year end 2008 and 2007, respectively, as disclosed in footnote: SEK 3,522 million and SEK 2,837 millionCompare inventory turnoverInventory Turnover = Cost of Goods Sold/ Average Inventory Using numbers reported, 4.81 = 237,578 ÷ [(55,045 + 43,645) ÷ 2]Assuming all past inventory write downs were reversed, using adjusted numbers = 4.51 = 236,893 ÷ [(58,567 + 46,482) ÷ 2]inventory disclosures: analytical considerationsExamine changes in inventory ratios relative to sales growth.High turnover + sales growth slower than industry: Is the company’s level of inventory adequate?High turnover + sales growth same or faster than industry: Probably indicates efficient inventory managementExamine changes in inventory components relative to other components and relative to sales growth.Significant increase in finished goods inventories while raw materials and work-in-progress inventories are declining could signify a possible decline in demand Growth of finished goods inventory higher than sales growth could also signify a possible decline in demandCopyright © 2013 CFA Institute34Summary Total cost of inventories comprises all costs of purchase, costs of conversion, and other costs incurred in bringing the inventories to their present location and condition.The choice of inventory valuation method determines how the cost of goods available for sale during the period is allocated between inventory and cost of sales. It affects the financial statements and any financial ratios that are based on them.IFRS allow three inventory valuation methods (cost formulas): first-in, first-out (FIFO); weighted average cost; and specific identification. U.S. GAAP allow the three methods above plus the last-in, first-out (LIFO) method.Companies that use the LIFO method must disclose in their financial notes the amount of the LIFO reserve. This information can be used to adjust reported LIFO inventory and cost of goods sold balances to the FIFO method for comparison purposes. Copyright © 2013 CFA Institute35