INVENTORY AND COST OF GOODS SOLD

Chapter Six

Types of Inventory

MERCHANDISING

Wholesalers Buy from

manufacturers sell to retailer

Retailers Buy from wholesalers Sell to general public

Acctg 101 Merchandise

Inventory

MANUFACTURING Buy from several

suppliers to make a product

Sell to wholesalers and sometimes retailers

Acctg 102 Raw Materials Work in Process Finished Goods

Inventory Normal Balance

Inventory is an asset so its normal balance is a Debit.

To increase inventory – Debit To decrease inventory – Credit

Purchases Normal Balance

Purchases is like expense Purchases is always increased with a

debit Purchase returns and allowances – credit

balance Purchase discount – credit balance

Cost of Goods Sold (COGS)

Cost of Goods Sold is an expense so it has a debit balance

Gross Margin

Sales -Sales Return and Allowances -Sales Discount =Net Sales -Cost of Goods Sold =Gross Margin

Cost of Goods Sold

Beginning Inventory 3000 +Purchases 12000 -Purchase Discount -600 -Purchases Return and Allow -400

+ Net Purchases 11000 + Freight In 1000 =Cost of Merchandise Purchased 10000 =Goods Available for Sale 13000 - Ending Inventory (or Goods not Sold) -

4000 = Cost of Goods Sold 9000

Brief Exercise 6-3 page 281 Exercise 6-1 page 283

MUST KNOW THIS FORMULA

MEMORIZE IT

Estimating Inventory-Why important Sales 150,000 Beginning Inventory 8,000

+Purchases 110,000 -Purchase Discount (1,000) -Purchases Ret & Allow (2,000)

+ Net Purchases 107,000 Goods Available for Sale 115,000 - Ending Inventory (or Goods not Sold) 15,000 = Cost of Goods Sold 100,000 Gross Margin 50,000

Overstating/Understating Ending Inventory

Over Under SALES 150 150

Beg Inventory + Net Purchases Can’t Change =Goods Available 115 115 - Ending Inventory 20 10 = COGS 95 105 =Gross Margin 55 45

WHAT EVER I DO TO ENDING INVENTORY,

I ALSO DO TO NET INCOME

Two methods to TRACK inventory Periodic

At some period of time

Perpetual All the time--- everytime there is a

purchase and everytime there is a sale

IF YOU KNOW PERIODIC YOU WILL KNOW PERPETUAL

SO LETS DO PERIODIC FIRST

4 METHODS TO DETERMINE COST

OF ENDING INVENTORY Specific Indentification First in First Out Last In First Out Average Cost

Specific Indentification

Not estimated Actual items Or specific identification Page 252 example

First In First Out

GUMBALL MACHINE Physical Flow matches Cost Flow First one purchased is first one sold Page 252 Used if few inventory items BE 6-4 page 281 Increasing costs --- higher cost in Ending

Inventory Lower cost in COGS so higher net income

Last In First Out

COOKIE JAR

Last one purchased first one sold Page 253 Used if want to put replacement cost in

Cost of Goods sold Increasing costs --- higher cost in COGS Lower cost in Ending Inventory so lower net

income BE 6-5 pg 281 IFRS – Not used US – tax savings

LIFO RESERVE

Additional amount of inventory a company would report if it used FIFO instead of LIFO

Cost of Goods Sold Inventory

MUST BE CONSISTENT

Can’t change inventory methods without IRS approval.

Can use different type of methods for different types of inventory

Average Cost

Weighted Average 500@$10, 600@$11, 800@$12

$50+$66+$96= 212/19 = $11.16 Used if a lot of little inventory items BE 6-6 page 281 Costs are evenly distributed in COGS and

Ending Inventory

Periodic versus Perpetual

Have been using Periodic Perpetual uses the periodic method

every time there is a sale and every time there is a sale.

Perpetual needs exact dates it was purchased and sold.

Perpetual Tracking pg 272

FIFO Usually not different under perpetual and

periodic

LIFO Usually different than periodic

Exercise 6-15 pg 286

Recording inventory transactions Periodic Method

Purchase Purchase A/P

Sale A/R Sales

Return & Allowance A/P Purchase Ret and Allowance

Purchase Discount A/P Cash Purchase Discount

Perpetual Method Purchase

Inventory A/P

Sale A/R Sales COGS Inventory

Return & Allowance A/P Inventory

Purchase Discount A/P Cash Inventory

Purchase Purchase A/P

Sale A/R Sales

Return & Allowance A/P Purchase Ret and

Allowance Purchase Discount

A/P Cash Purchase Discount

Purchase Inventory A/P

Sale A/R Sales COGS Inventory

Return & Allowance A/P Inventory

Purchase Discount A/P Cash Inventory

Periodic Perpetual

Freight - In

Freight InPurchases or COGS accountBringing it into the business

Freight In A/P

Freight out

Selling Expense Cost of Sending it to the customer Freight Expense Cash or A/P

Exercises

6-6 pg 284 Perpetual 6-7 Periodic

Lower Cost or Market pg 266 Normally Inventory is replacement cost

--- cost to restock the item after identical items are sold

If Market Value is less than Cost (if what you paid for the item is less than you can sell it for) you must make an adjustment.

COGS Inventory

Exercises

Page 285 6-11 6-12

Inventory Ratios

Inventory Turnover pg 269

COGS/ Average Inventory

# of Days in Inventory 365/ Inventory T/O

(Seasons)

6-13 pg 285 Inventory

Gross Profit Ratio

Gross Profit pg 271 Gross Profit/ Net Sales

Exercise 6-14 pg 286

Homework

Problem 6-2 COGS, Ending Inventory Problem 6-3 Periodic Problem 6-4 Perpetual Problem 6-6 Lower of Cost or Market Problem 6-8 Ratios