Chapter 6 Cost Flow Assumptions PDF

McGraw-Hill/Irwin Slide 1  LEARNING OBJECTIVES  Analyze the effects of inventory methods  Compute inventory in a perpetual system using the methods of FIFO, LIFO, and weighted average.  Determine the issue price of materials so that to be charged to production...

McGraw-Hill/Irwin Slide 1  LEARNING OBJECTIVES  Analyze the effects of inventory methods  Compute inventory in a perpetual system using the methods of FIFO, LIFO, and weighted average.  Determine the issue price of materials so that to be charged to production on a consistent & realistic basis.  Pricing enables the valuation of inventory on hand. McGraw-Hill/Irwin Slide 2 P1 INVENTORY COST FLOW ASSUMPTIONS Accounting for  Costing Method inventory requires 1. Specific Identification several decisions... 2. FIFO 3. LIFO 4. Weighted Average  Inventory System  Perpetual or Periodic McGraw-Hill/Irwin Slide 3 P1 INVENTORY COST FLOW ASSUMPTIONS First-In, First-Out Assumes costs flow in the order (FIFO) incurred. Last-In, First-Out Assumes costs flow in the reverse (LIFO) order incurred. Weighted Assumes costs flow at an average Average of the costs available. McGraw-Hill/Irwin Slide 4 P1 INVENTORY COSTING ILLUSTRATION Here is information about the mountain bike inventory of Trekking for the month of August. Date Activity Units Acquired at Cost Units Sold at Retail Unit Inv. Aug. 1 Beg. Inventory 10units @ $ 91 = $ 910 10 Aug. 3 Purchased 15units @ $ 106 = $ 1,590 25 Aug. 14 Sales 20 units @ $130 5 Aug. 17 Purchased 20units @ $ 115 = $ 2,300 25 Aug. 28 Purchased 10units @ $ 119 = $ 1,190 35 Aug. 31 Sales 23 units @ $150 12 Totals 55 $5,990 43 McGraw-Hill/Irwin Slide 5 P1 FIRST-IN, FIRST-OUT (FIFO) Oldest Cost of Costs Goods Sold Recent Ending Costs Inventory McGraw-Hill/Irwin Slide 6 P1 FIRST-IN, FIRST-OUT (FIFO) Inventory Date Purchases Cost of Goods Sold Balance Aug. 1 10 @ $ 91 = $ 910 $ 910 Aug. 3 15 @ $ 106 = $ 1,590 2,500 Aug. 14 10 @ $ 91 = $ 910 10 @ $ 106 = $ 1,060 530 Aug. 17 20 @ $ 115 = $ 2,300 2,830 The28 Aug. Cost10of Goods Sold= for$ the @ $ 119 1,190August 14 sale is $1,970. 4,020 Aug. 31 5 @ $ 106 = $ 530 After this sale, there are 5 units in18 inventory at $530$(52,070 @ $ 115 = @ $106) $ 1,420 McGraw-Hill/Irwin Slide 7 P1 FIRST-IN, FIRST-OUT (FIFO) Inventory Date Purchases Cost of Goods Sold Balance Aug. 1 10 @ $ 91 = $ 910 $ 910 Aug. 3 15 @ $ 106 = $ 1,590 2,500 Aug. 14 10 @ $ 91 = $ 910 10 @ $ 106 = $ 1,060 530 Aug. 17 20 @ $ 115 = $ 2,300 2,830 Aug. 28 10 @ $ 119 = $ 1,190 4,020 Aug. 31 5 @ $ 106 = $ 530 18 @ $ 115 = $ 2,070 $ 1,420 Cost of Goods Sold for August 31 = $2,600 On August 31st, there are 12 units in inventory at $1,420 (2 @ $115 + 10 @ $119). McGraw-Hill/Irwin Slide 8 P1 FIRST-IN, FIRST-OUT (FIFO) Here are the entries to record the purchases and sales entries. The numbers in red are determined by the cost flow assumption used. All purchases Aug. 3 Merchandise inventory 1,590 Accounts payable 1,590 and sales are Aug. 14 Accounts receivable 2,600 made on Sales 2,600 credit. Aug. 14 Cost of goods sold 1,970 The selling Merchandise inventory 1,970 price of Aug. 17 Merchandise inventory 2,300 Accounts payable 2,300 inventory was Aug. 28 Merchandise inventory 1,190 as follows: Accounts payable 1,190 Aug. 31 Accounts receivable 3,450 8/14 $130 Sales 3,450 8/31 150 Aug. 31 Cost of goods sold 2,600 Merchandise inventory 2,600 McGraw-Hill/Irwin Slide 9 P1 LAST-IN, FIRST-OUT (LIFO) Recent Cost of Costs Goods Sold Oldest Ending Costs Inventory McGraw-Hill/Irwin Slide 10 P1 LAST-IN, FIRST-OUT (LIFO) Inventory Date Purchases Cost of Goods Sold Balance Aug. 1 10 @ $ 91 = $ 910 $ 910 Aug. 3 15 @ $ 106 = $ 1,590 2,500 Aug. 14 15 @ $ 106 = $ 1,590 5 @ $ 91 = $ 455 455 Aug. 17 20 @ $ 115 = $ 2,300 2,755 Aug. 28The10Cost of Goods Sold for the August 14 sale is $2,045. @ $ 119 = $ 1,190 3,945 Aug. 31 this sale, there are 5 units 10 After @ $ 119 at=$455 in inventory $ 1,190 (5 @ $91) 13 @ $ 115 = $ 1,495 $ 1,260 McGraw-Hill/Irwin Slide 11 P1 LAST-IN, FIRST-OUT (LIFO) Inventory Date Purchases Cost of Goods Sold Balance Aug. 1 10 @ $ 91 = $ 910 $ 910 Aug. 3 15 @ $ 106 = $ 1,590 2,500 Aug. 14 15 @ $ 106 = $ 1,590 5 @ $ 91 = $ 455 455 Aug. 17 20 @ $ 115 = $ 2,300 2,755 Aug. 28 10 @ $ 119 = $ 1,190 3,945 Aug. 31 10 @ $ 119 = $ 1,190 13 @ $ 115 = $ 1,495 $ 1,260 Cost of Goods Sold for August 31 = $2,685 On August 31st, there are 12 units in inventory at $1,260: (5 @ $91 +,7 @ $115). McGraw-Hill/Irwin Slide 12 P1 LAST-IN, FIRST-OUT (LIFO) Here are the entries to record the purchases and sales entries. The numbers in red are determined by the cost flow assumption used. All purchases Aug. 3 Merchandise inventory 1,590 Accounts payable 1,590 and sales are Aug. 14 Accounts receivable 2,600 made on Sales 2,600 credit. Aug. 14 Cost of goods sold 2,045 The selling Merchandise inventory 2,045 price of Aug. 17 Merchandise inventory 2,300 Accounts payable 2,300 inventory was Aug. 28 Merchandise inventory 1,190 as follows: Accounts payable 1,190 Aug. 31 Accounts receivable 3,450 8/14 $130 Sales 3,450 8/31 150 Aug. 31 Cost of goods sold 2,685 Merchandise inventory 2,685 McGraw-Hill/Irwin Slide 13 P1 WEIGHTED AVERAGE When a unit is sold, the average cost of each unit in inventory is assigned to cost of goods sold. Cost of Goods Units on hand Available for ÷ on the date of Sale sale McGraw-Hill/Irwin Slide 14 P1 WEIGHTED AVERAGE Inventory Date Purchases Cost of Goods Sold Balance Aug. 1 10 @ $ 91 = $ 910 $ 910 Aug. 3 15 @ $ 106 = $ 1,590 2,500 Aug. 14 20 @ $ 100 = $ 2,000 500 Aug. 17 20 @ First, $ 115 we = $need 2,300to compute the weighted 2,800 Aug. 28 10 @average $ 119 =cost per unit of items in inventory. 3,990 $ 1,190 Aug. 31 23 @ $ 114 = $ 2,622 $ 1,368 Cost of goods available for sale $ 2,500 Total units in inventory ÷ 25 Weighted average cost per unit $ 100 McGraw-Hill/Irwin Slide 15 P1 WEIGHTED AVERAGE Inventory Date Purchases Cost of Goods Sold Balance Aug. 1 10 @ $ 91 = $ 910 $ 910 Aug. 3 15 @ $ 106 = $ 1,590 2,500 Aug. 14 20 @ $ 100 = $ 2,000 500 Aug. 17 20 @ $ 115 = $ 2,300 2,800 Aug. The28Cost 10 of @Goods $ 119 Sold 3,990 for the August 14th sale is $2,000. = $ 1,190 Aug. 31 23 @ $ 114 = $ 2,622 $ 1,368 After this sale, there are 5 units in inventory at $500. McGraw-Hill/Irwin Slide 16 P1 WEIGHTED AVERAGE Inventory Date Purchases Cost of Goods Sold Balance Aug. 1 10 @ $ 91 = $ 910 $ 910 Aug. 3 15 @ $ 106 = $ 1,590 2,500 Aug. 14 20 @ $ 100 = $ 2,000 500 Aug. 17 20 @ $ 115 = $ 2,300 2,800 Aug. 28 10 @ $ 119 = $ 1,190 3,990 Aug. 31 23 @ $ 114 = $ 2,622 $ 1,368 Units Inventory 8/14 5 Cost of goods available for sale $ 3,990 Purchase 8/17 20 Total units in inventory ÷ 35 Purchase 8/28 10 Units available for sale 35 Weighted average cost per unit $ 114 McGraw-Hill/Irwin Slide 17 P1 WEIGHTED AVERAGE Inventory Date Purchases Cost of Goods Sold Balance Aug. 1 10 @ $ 91 = $ 910 $ 910 Aug. 3 15 @ $ 106 = $ 1,590 2,500 Aug. 14 20 @ $ 100 = $ 2,000 500 Aug. 17 20 @ $ 115 = $ 2,300 2,800 Aug. 28 10 @ $ 119 = $ 1,190 3,990 Aug. 31 23 @ $ 114 = $ 2,622 $ 1,368 Cost of Goods Sold for August 31 = $2,622 After the August 31 sale, there are 12 units in inventory at $1,368: (12 @ $114) McGraw-Hill/Irwin Slide 18 P1 WEIGHTED AVERAGE Here are the entries to record the purchases and sales entries for Trekking. The numbers in red are determined by the cost flow assumption used. Aug. 3 Merchandise inventory 1,590 All purchases Accounts payable 1,590 and sales are Aug. 14 Accounts receivable 2,600 made on Sales 2,600 Aug. 14 Cost of goods sold 2,000 credit. Merchandise inventory 2,000 The selling Aug. 17 Merchandise inventory 2,300 price of Accounts payable 2,300 inventory was Aug. 28 Merchandise inventory 1,190 as follows: Accounts payable 1,190 Aug. 31 Accounts receivable 3,450 8/14 $130 Sales 3,450 Aug. 31 Cost of goods sold 2,622 8/31 150 Merchandise inventory 2,622 McGraw-Hill/Irwin Slide 19 A1 FINANCIAL STATEMENT EFFECTS OF COSTING METHODS Because prices change, inventory methods nearly always assign different cost amounts. Trekking Company For Month Ended August 31 Specific Weighted Identification FIFO LIFO Average Sales $ 6,050 $ 6,050 $ 6,050 $ 6,050 Cost of goods sold 4,582 4,570 4,730 4,622 Gross profit $ 1,468 $ 1,480 $ 1,320 $ 1,428 Operating expenses 450 450 450 450 Income before taxes $ 1,018 $ 1,030 $ 870 $ 978 Income tax expense (30%) 305 309 261 293 Net income $ 713 $ 721 $ 609 $ 685 Balance sheet inventory $ 1,408 $ 1,420 $ 1,260 $ 1,368 McGraw-Hill/Irwin Slide 20 A1 FINANCIAL STATEMENT EFFECTS OF COSTING METHODS Advantages of Methods Weighted First-In, Last-In, Average First-Out First-Out Ending inventory Better matches Smoothes out approximates current costs in cost price changes. current of goods sold with replacement cost. revenues. McGraw-Hill/Irwin Slide 21