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ACCT 1201 (41)

Chapter 7 - Outline

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Northeastern University
ACCT 1201
Osborne Jackson

ACCT1201 FALL 2013 Chapter 7: Reporting and Interpreting Inventory and Cost of Goods Sold A. Inventory is tangible property that is a. held for sale in the normal course of business, or used to produce goods for sale. b. reported on the balance sheet as a current asset c. initially reported on the balance sheet at cost B. Costs Included in Merchandising Inventory 1 a. Price paid for the goods (or cash equivalent) b.Freight-in (transportation) 0 o Yes: FOB shipping point (buyer pays; we are buying merchandise AND paying for it) o No: FOB destination (seller pays) 2 c. Other costs to make it salable Flow of merchandising Inventory cost 1 a. Purchase: increase merchandise inventory (at cost) b. Sale: decrease merchandise inventory (at cost) and increase cost of goods sold (at cost) Ending Inventory+COGS=total amount in beginning inventory Perpetual Inventory Entries: Cash Sales COGS Inventory Periodic Inventory Entry (only one): Cash Sales **COGS is a calculated figure (must be calculated at end of period)** C. Cost of Goods Sold (COGS) 1 2 1. The cost (to the seller) of the items that were sold. 3 2. Subtracted from net sales on the income to derive gross profit. 1 3. COGS = (Beginning Inventory + Purchases)-Ending inventory =Cost of Goods Available For Sale-Ending inventory Income Statement ACCT1201 FALL 2013 Net Sales Cost of Goods Sold: Beginning Inventory Add purchases Cost of Goods Available for sale Less ending inventory Cost of goods sold Gross Profit Operating expenses Pretax Income Income tax expense Net Income Net Sales = Sales Rev – Returns&Allowances – Sales Discounts – Credit Card Discounts COGS = Beg Inv + Purchass – End Inv GP = Net Sales – COGS Operating Income = GP – Op Exp EBIT = Op Income +/- other gains/losses Net Income = EBIT – Income Tax Exp Exercise 1: Jan. 1: Beginning inventory: 300 units at unit cost of $75 Jan 15: Purchased 1400 units at unit cost of $75 Jan 31: Ending inventory 700 units at unit cost of $75 During January, net sales is $100,000 During January, total operating expense is $5,000 Income tax rate is 20% Requirements: 1) Determine COGS in January. COGS = Beg Inv + Purchass – End Inv COGS = 22500+105000-52500 COGS =75000 2) Prepare an income statement using the format on page 1 ACCT1201 FALL 2013 The following events took place at Zack D. bookstore during Q2, 2012: Exercise 2: April 1: Beginning inventory: two EL-233S calculators at $1.75 each May 15: Purchased three more EL-233S calculators at $2 each June 20: Purchased one EL-233S calculator at $2.25 each June 28: Sold four EL-233S calculators for $3 each Determine COGS and ending inventory D. Reporting Inventory and COGS using four inventory costing methods 1 o Specific Identification-tracks the actual physical flow of the goods • Selling unique, high-priced items (i.e. unique artwork, boats, cars)  specialty items 1 o FIFO-first in first out--assumes that the earliest units purchased are the first to be sold. • COGS will be based on the first items you purchased (i.e. you apply costs of the items you sold based on the cost of the items you paid for first)  if customer buys newer milk/eggs, company would record the cost of the older milk/eggs (OLDEST COST IS APPLIED TO COGS) 1 o LIFO-last in first out--assumes that the latest units purchased are the first to be sold 1 o Average cost-assumes that the goods available for sale are identical ACCT1201 FALL 2013 Exercise 3: At the end of the accounting period, December 31, 2012, the accounting records provided the following information Units Unit Cost Inventory, December 31, 20117,000 $8 For the Year 2012 Purchase, March 5 19,000 $9 Purchase, September 19 10,000 $11 Sale ($29 each) 8,000 Sale ($31 each) 16,000 Operating expenses: $100,000 Income tax rate: 30% Required: prepare a separate income statement that details cost of goods sold under FIFO, LIFO and Average Cost. For each case, show the computation of cost of goods sold and ending inventory. FIFO LIFO AC Sales Revenue………………... Cost of goods sold: Beginning inventory……….. Purchases…………………... Cost of Goods available for sale…. Ending inventory…………... Cost of goods sold……….. Gross Profit…………………... Operating Expenses………….. Pretax Income………………… Income Tax…………………… Net Income…………………… E: Financial Statement and Tax effects of Cost Flow Methods In a time of increasing costs (as in example 3): ACCT1201 FALL 2013 In a time of decreasing costs: Managers’ Choice of Inventory Methods: 1 • LIFO conformity rule • Consistency in inventory costing methods F: Valuing Inventory at lower of cost or market (LCM) on the Balance Sheet LCM is a valuation method departing from the cost principle. It serves to recognize a loss when replacement cost or net realizable value drops below cost 1 • Report inventory at replacement cost (current purchase price) if the inventory can 2 be replaced with identical goods at a lower cost than the original purchase price 3 0 # of units Original unit cost Replacement Cost Pentium chips 1000 $250 $200 1 • Report damaged or obsolete items at their net realizable value (sales price – selling 2 expense) when the net realizable value drops below cost G: Important Inventory Ratios: Inventory turnover ratio = COGS/Average Inventory Days in inventory = 365/inventory turnover ratio Example: Calculate the ratios for Safeway and Zales Corporations Safeway Zales Cost of merchandise sold $22,482,400 $920,003 Inventories: Beginning of year $ 2,444,900 $571,669 End of year $ 2,508,000 $630,450 Average $ 2,476,450 $601,059 H: Perpetual and Periodic Inventory Systems 1 1. Perpetual 1 a. Inventory purchased during the period is recorded
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