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Income Statement Presentation

Financial Accounting
Course Code
Liang Chen

of 2
Income Statement Presentation
¾ There is a new cost of goods sold section between sales revenue and operating
Completing the Accounting Cycle
¾ Closing entries are the same as the perpetual system. Merchandise Inventory is
affected by this process
¾ Since the amount in the adjusted trial balance is the beginning inventory, by debiting
the beginning inventory and crediting the ending inventory to Capital, the
Merchandise Inventory would have the new beginning inventory for the following
accounting period
Inventory Costing Under a Periodic Inventory System
¾ In accordance with cost principle and matching principle, the cost of items must be
allocated in a consistent and rational way
Using Actual physical flow costing ± specific identification
¾ Each item of inventory is marked, tagged, or coded with its specific unit cost.
Therefore, as inventory is purchased and sold, the cost of a specific unit is known
Using assumed flow methods ± FIFO, Average Cost, and LIFO
¾ FIFO (First in first out), Average cost, and LIFO (Last in first out)
¾ FIFO ± This means the assumption that inventory that came in first will be sold first.
Therefore, the cost of units will be based on the time it was purchased
¾ Average cost ± Costs of good available for sale/total units available for sale =
weighted average unit cost
¾ LIFO- This means the assumption that inventory that came in last will be sold first.
Therefore, the cost of units will be based on the time it was purchased
Financial Statement effects of cost flow methods
¾ Income statement effects
In a period of rising prices, FIFO provides a higher income
In a period of falling prices, LIFO provides a higher income
LIFO provides the best income statement valuation. It matches current costs
with current revenues. This is because, under LIFO, the cost of goods sold is
assumed to be the cost of the goods most recently acquired
¾ Balance sheet effects
FIFO produces the best balance sheet valuation
In a period of rising prices, the costs allocated to ending inventory will
approximate their current, or replacement cost.
Selection of Cost Flow method
¾ While the accounting profession does permit a choice among acceptable methods, the
reason is to accommodate differences in the circumstances of the company and the
at will
Using Inventory cost flow methods consistently
¾ Whichever cost flow method is selected, it should be used consistently. If the
company chooses to change its method, it has to disclose it explicitly in its financial