CHAPTER 9. Inventories ASSIGNMENT CLASSIFICATION TABLE. Brief. B Problems. A Problems. 1. Describe the steps in determining inventory quantities.

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Inventories

ASSIGNMENT CLASSIFICATION TABLE

Study Objectives Questions

Brief

Exercises Exercises

A Problems

B Problems 1. Describe the steps in

determining inventory quantities.

4, 5, 6, 7, 8, 9

4 4

2. Prepare the entries for purchases and sales of inventory under a periodic inventory system.

1 1 1 1A 1B

3. Determine cost of goods sold under a periodic inventory system.

2, 3 2, 3 2 1A, 2A 1B, 2B

4. Identify the unique features of the income statement for a merchandising company using a periodic inventory system.

10 3 1A, 2A 1B, 2B

5. Explain the basis of accounting for inventories and describe the inventory cost flow methods.

8, 9, 11, 12, 13, 14

5, 6, 7 5, 6, 7 3A, 4A 3B, 4B

6. Explain the financial statement and tax effects of each of the inventory cost flow methods.

15, 16, 21 6, 7 3A, 4A 3B, 4B

7. Explain the lower of cost or market basis of accounting for inventories.

17, 18, 19 8 8

8. Indicate the effects of inventory errors on the financial statements.

20 10 9, 10

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ASSIGNMENT CLASSIFICATION TABLE (Continued)

Study Objectives Questions

Brief

Exercises Exercises

A Problems

B Problems

*09. Compute and interpret the inventory turnover ratio.

22 9 11

*10. Describe the two methods of estimating inventories.

23, 24, 25, 26

11, 12 12, 13 5A, 6A 5B, 6B

*11. Apply the inventory cost flow methods to perpetual inventory records.

27, 28 13 14 7A 7B

*Note: All asterisked Questions, Exercises, and Problems relate to material in the appendix to the

*chapter.

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Problem

Number Description

Difficulty Level

Time Allotted (min.) 1A Journalize, post, and prepare trial balance and partial

income statement.

Simple 30-40

2A Prepare an income statement. Simple 15-20

3A Determine cost of goods sold and ending inventory using FIFO, LIFO, and average cost with analysis.

Simple 30-40

4A Compute ending inventory, prepare income statements and answer questions using FIFO and LIFO.

Moderate 30-40

*5A Compute gross profit rate and inventory loss using the gross profit method.

Moderate 30-40

*6A Compute ending inventory using the retail inventory method.

Moderate 20-30

*7A Determine ending inventory under a perpetual inventory system.

Moderate 40-50

1B Journalize, post, and prepare a trial balance and partial income statement.

Simple 30-40

2B Prepare an income statement. Simple 15-20

3B Determine cost of goods sold and ending inventory using FIFO, LIFO, and average cost.

Simple 30-40

4B Compute ending inventory, prepare income statements and answer questions using FIFO and LIFO.

Moderate 30-40

*5B Estimate inventory loss using the gross profit method. Moderate 30-40

*6B Compute ending inventory and cost of inventory lost using the retail inventory method.

Moderate 20-30

*7B Determine ending inventory under a perpetual inventory system.

Moderate 40-50

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BLOOM'STAXONOMYTABLE

9-4

Correlation Chart between Bloom's Taxonomy, Study Objectives and End-of-Chapter Exercises and Problems

Study Objective Knowledge Comprehension Application Analysis Synthesis Evaluation

*01. Describe the steps in determining inventory quantities.

Q9-5 Q9-4

Q9-6 Q9-7

Q9-9 BE9-4

Q9-8 E9-4

*02. Prepare the entries for purchases and sales of inventory under a peri- odic inventory system.

Q9-1 BE9-1 E9-1

P9-1A P9-1B

*03. Determine cost of goods sold under a periodic inventory system.

Q9-2 Q9-3

BE9-2 BE9-3

E9-2 P9-1A

P9-1B P9-2A P9-2B

*04. Identify the unique features of the income statement for a merchandis- ing company using a periodic in- ventory system.

Q9-10 E9-3

P9-1A P9-1B

P9-2A P9-2B

*05. Explain the basis of accounting for inventories and describe the inven- tory cost flow methods.

Q9-12 Q9-14 BE9-5

Q9-9 Q9-11 Q9-13

Q9-8 BE9-6 BE9-7

E9-5 E9-6 E9-7

P9-3A P9-3B

P9-4A P9-4B

*06. Explain the financial statement and tax effects of each of the inventory cost flow methods.

Q9-15 Q9-16 Q9-21

E9-6 E9-7 P9-3A

P9-3B P9-4A

P9-4B

*07. Explain the lower of cost or market basis of accounting for inventories.

Q9-17 Q9-18

Q9-19 BE9-8 E9-8

*08. Indicate the effects of inventory errors on the financial statements.

Q9-20 BE9-9

BE9-10 E9-9 E9-10

*09. Compute and interpret the inventory turnover ratio.

BE9-9 BE9-11

Q9-22

*10. Describe the two methods of esti- mating inventories.

Q9-23 Q9-24

Q9-25 Q9-26 BE9-12 BE9-13

E9-12 E9-13 P9-5A P9-6A

P9-5B P9-6B

*11. Apply the inventory cost flow meth- ods to perpetual inventory records.

Q9-27 Q9-28

E9-14 P9-7A

P9-7B

Broadening Your Perspective Financial Reporting

Group Decision Case

Real-World Focus Communication Research Assign.

Surfing the Net

Ethics Case Comp. Analysis Interpreting

Financial Sts.

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01. July 24 Accounts Payable ($1,700 – $200) . . . . 1,500

Purchase Discounts ($1,500 X 2%) . . . . 30 Cash ($1,500 – $30) . . . . 1,470

02. Accounts Added/Deducted Normal Balance

Purchase Returns and Allowances Purchase Discounts

Freight-in

Deducted Deducted Added

Credit Credit Debit 03. (a) X = Purchase returns and allowances and

Y = Purchase discounts, or vice versa.

(b) X = Freight-in.

(c) X = Cost of goods purchased.

(d) X = Ending merchandise inventory.

04. Agree. Effective inventory management is frequently the key to successful business operations.

Management attempts to maintain sufficient quantities and types of goods to meet expected customer demand. It also seeks to avoid the cost of carrying inventories that are clearly in excess of anticipated sales.

05. Inventory items have two common characteristics: (1) they are owned by the company and (2) they are in a form ready for sale to customers in the ordinary course of business.

06. Taking a physical inventory involves actually counting, weighing or measuring each kind of inventory on hand. Retailers, such as a hardware store, generally have thousands of different items to count.

This is normally done when the store is closed. Tom will probably count items, and mark the quan- tity, description, and inventory number on prenumbered inventory tags.

07. (a) (1) The goods will be included in Janine Company's inventory if the terms of sale are FOB destination.

(2) They will be included in Laura Company's inventory if the terms of sale are FOB shipping point.

(b) Janine Company should include goods shipped to a consignee in its inventory. Goods held by Janine Company on consignment should not be included in inventory.

08. Inventoriable costs are $3,020 (invoice cost $3,000 + freight charges $80 – purchase discounts

$60). The amount paid to negotiate the purchase is a buying cost that normally is not included in the cost of inventory because of the difficulty of allocating these costs. Buying costs are expensed in the year incurred.

09. The primary basis of accounting for inventories is cost in accordance with the cost principle. The major objective of accounting for inventories is the proper determination of net income in accordance with the matching principle.

10. There are three distinguishing features in the income statement of a merchandising company: (1) a sales revenues section, (2) a cost of goods sold section, and (3) gross profit.

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Questions Chapter 9 (Continued)

11. Actual physical flow may be impractical because many items are indistinguishable from one another.

Actual physical flow may be inappropriate because management may be able to manipulate net income through specific identification of items sold.

12. The major advantage of the specific identification method is that it tracks the actual physical flow of the goods available for sale. The major disadvantage is that management could manipulate net income.

13. No. Selection of an inventory costing method is a management decision. However, once a method has been chosen, it should be consistently applied.

14. (a) FIFO, (b) Average cost, (c) LIFO.

15. Jim Groat Company is using the FIFO method of inventory costing, and Greg Hanson Company is using the LIFO method. Under FIFO, the latest goods purchased remain in inventory. Thus, the inventory on the balance sheet should be close to current costs. The reverse is true of the LIFO method. Jim Groat Company will have the higher gross profit because cost of goods sold will include a higher proportion of goods purchased at earlier (lower) costs.

16. Char Lewis Company may experience severe cash shortages if this policy continues. All of its net income is being paid out as dividends, yet some of the earnings must be reinvested in inventory to maintain inventory levels. Some earnings must be reinvested because net income is computed with cost of goods sold based on older, lower costs while the inventory must be replaced at current, higher costs. Because of this factor, net income under FIFO is sometimes referred to as "phantom profits."

17. Bob should know the following:

(a) A departure from the cost basis of accounting for inventories is justified when the utility (reve- nue-producing ability) of the goods is no longer as great as its cost. The writedown to market should be recognized in the period in which the price decline occurs.

(b) Market means current replacement cost, not selling price. For a merchandising company, market is the cost at the present time from the usual suppliers in the usual quantities.

18. Hohenberger Music Center should report the CD players at $320 each for a total of $1,600. $320 is the current replacement cost under the lower of cost or market basis of accounting for inventories. A decline in replacement cost usually leads to a decline in the selling price of the item.

Valuation at LCM is conservative.

19. The methods that may be used under LCM are (1) individual items, (2) major categories, and (3) total inventory. The individual items method produces the lowest inventory value.

20. (a) Elaine Stahl Company's 1998 net income will be understated $5,000; (b) 1999 net income will be overstated $5,000; and (c) the combined net income for the two years will be correct.

21. Maureen & Nathan Company should disclose (1) the major inventory classifications, (2) the basis of accounting (cost or lower of cost or market), and (3) the costing method (FIFO, LIFO, or average).

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*22. An inventory turnover ratio too high may indicate that the company is losing sales opportunities because of inventory shortages. Inventory outages may also cause customer ill will and result in lost future sales.

*23. Inventories must be estimated when (1) management wants monthly or quarterly financial statements but a physical inventory is only taken annually and (2) a fire or other type of casualty makes it impossible to take a physical inventory.

*24. In the gross profit method, the average is the gross profit rate, which is gross profit divided by net sales. The rate is often based on last year's actual rate. The gross profit rate is applied to net sales in using the gross profit method.

In the retail inventory method, the average is the cost-to-retail ratio, which is the goods available for sale at cost divided by the goods available for sale at retail. The ratio is based on current year data and is applied to the ending inventory at retail.

*25. The estimated cost of the ending inventory is $20,000:

Net sales . . . . $400,000 Less: Gross profit ($400,000 X 30%) . . . . 0120,000 Estimated cost of goods sold . . . . $280,000 Cost of goods available for sale . . . . $300,000 Less: Cost of goods sold . . . . 0280,000 Estimated cost of ending inventory . . . . $020,000

*26. The estimated cost of the ending inventory is $21,000:

Cost-to-retail ratio:

Ending inventory at retail: $30,000 ($120,000 – $90,000).

Ending inventory at cost: $21,000 ($30,000 X 70%).

*27. Disagree. The results under the FIFO method are the same but the results under the LIFO method are different. The reason is that the pool of inventoriable costs (cost of goods available for sale) is not the same. Under a periodic system, the pool of costs is the goods available for sale for the entire period, whereas under a perpetual system, the pool is the goods available for sale up to the date of sale.

*28. In a periodic system, the average is a weighted average based on total goods available for sale for the period. In a perpetual system, the average is a moving average of goods available for sale after each purchase.

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SOLUTIONS TO BRIEF EXERCISES

BRIEF EXERCISE 9-1

(a) Purchases . . . . 900,000

Accounts Payable . . . . 900,000 (b) Accounts Payable . . . . 130,000

Purchase Returns and Allowances . . . . 130,000 (c) Accounts Payable ($900,000 – $130,000) . . . . . 770,000

Purchase Discounts ($770,000 X 2%) . . . . 15,400 Cash ($770,000 – $15,400) . . . . 754,600

(a) Purchases . . . . $440,000 Less: Purchase returns and allowances . . . . . $11,000

Purchase discounts . . . . 008,000 0019,000 Net purchases . . . . $421,000 (b) Net purchases . . . . $421,000 Add: Freight-in . . . . 0016,000 Cost of goods purchased . . . . $437,000

Net sales . . . . $650,000 Beginning inventory . . . . $060,000

Add: Cost of goods purchased* . . . . 0437,000 Cost of goods available for sale . . . . 497,000 Ending inventory . . . . 0090,000

Cost of goods sold . . . . 0407,000 Gross profit . . . . $243,000

*Information taken from Brief Exercise 9-2.

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1. Ownership of the goods belongs to the consignor (Oriental Press). Thus, these goods should be included in Oriental Press' inventory.

2. The goods in transit should not be included in the inventory count be- cause ownership by Oriental Press does not occur until the goods reach the buyer.

3. The goods being held belong to the customer. They should not be in- cluded in Oriental Press' inventory.

4. Ownership of these goods rests with the other company (the consignor).

Thus, these goods should not be included in the physical inventory.

The items that should be included in inventoriable costs are:

(1) Freight-in

(2) Purchase Returns and Allowances (3) Purchases

(5) Purchase Discounts

(1) The ending inventory under FIFO consists of 300 units at $8 + 100 units at $7 for a total allocation of $3,100 ($2,400 + $700).

(2) The ending inventory under LIFO consists of 300 units at $6 + 100 units at $7 for a total allocation of $2,500 ($1,800 + $700).

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Average unit cost is $7.00 computed as follows:

0,300 X $6 = $1,800 0,400 X $7 = 02,800 0,300 X $8 = 02,400

1,000 $7,000

$7,000 ÷ 1,000 = $7.00.

The cost of the ending inventory is $2,800 (400 X $7.00).

Inventory Categories Cost Market LCM

Cameras Camcorders VCRs

Total valuation

$12,000 9,000 14,000

$10,200 9,700 12,800

$10,200 9,000 012,800

$32,000

Inventory turnover ratio: = = 3.0

Days in inventory: = 121.7 days

The understatement of ending inventory caused cost of goods sold to be overstated $7,000 and net income to be understated $7,000. The correct net income for 1999 is $97,000 ($90,000 + $7,000).

Total assets in the balance sheet will be understated by the amount that end- ing inventory is understated, $7,000.

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(1) Net sales $300,000 Less: Estimated gross profit (40% X $300,000) 0120,000

Estimated cost of goods sold $180,000

(2) Cost of goods available for sale $230,000

Less: Estimated cost of goods sold 0180,000

Estimated cost of ending inventory $050,000

*BRIEF EXERCISE 9-12

At Cost At Retail Goods available for sale

Net sales

Ending inventory at retail

$35,000 $50,000 030,000

$20,000 Cost-to-retail ratio = ($35,000 ÷ $50,000) = 70%

Estimated cost of ending inventory = ($20,000 X 70%) = $14,000

*BRIEF EXERCISE 9-13 (1) FIFO Method

Product E2-D2

Date Purchases Sales Balance

May 7

June 1 July 28 Aug. 27

(50 @ $10) $500 (30 @ $15) $450

(30 @ $10) $300

(20 @ $10)

(13 @ $15) $395

(50 @ $10) $500 (20 @ $10) $200 (20 @ $10)

(30 @ $15) $650 (17 @ $15) $255

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*BRIEF EXERCISE 9-13 (Continued) (2) LIFO Method

Product E2-D2

May 7

June 1 July 28 Aug. 27

(50 @ $10) $500 (30 @ $15) $450

(30 @ $10) $300

(30 @ $15)

(03 @ $10) $480

(50 @ $10) $500 (20 @ $10) $200 (20 @ $10)

(30 @ $15) $650 (17 @ $10) $170

(3) Average Cost

Product E2-D2

May 7

June 1 July 28 Aug. 27

(50 @ $10) $500 (30 @ $15) $450

(30 @ $10) $300 (33 @ $13) $429

(50 @ $10) $500 (20 @ $10) $200 (50 @ $13)* $650 (17 @ $13) $221

*$650 ÷ 50

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EXERCISE 9-1

(a) (1) April 5 Purchases . . . . 18,000

Accounts Payable . . . . 18,000 (2) April 6 Freight-in . . . . 800

Cash . . . . 800 (3) April 7 Equipment . . . . 26,000

Accounts Payable . . . . 26,000 (4) April 8 Accounts Payable . . . . 3,000

Purchase Returns and

Allowances . . . . 3,000 (5) April 15 Accounts Payable . . . . 15,000

($18,000 – $3,000)

Purchase Discounts . . . . 300 [($18,000 – $3,000) X 2%]

Cash ($15,000 – $300) . . . . 14,700 (b) May 4 Accounts Payable ($18,000 – $3,000) . . 15,000

Cash . . . . 15,000

EXERCISE 9-2

Inventory, September 1, 1998 . . . . $017,200 Purchases . . . . $142,400

Less: Purchase returns and allowances . . . . 0002,000 Net purchases . . . . 140,400 Add: Freight-in . . . . 0004,000

Cost of goods purchased . . . . 0144,400 Cost of goods available for sale . . . . 161,600 Inventory, August 31, 1999 . . . . 0027,000 Cost of goods sold . . . . $134,600

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EXERCISE 9-3

MEXICO COMPANY Income Statement

For the Month Ended January 31, 1999 Sales revenues

Sales . . . . $312,000 Less: Sales returns and

allowances . . . . $013,000

Sales discounts . . . . . 0008,000 0021,000 Net sales . . . . 291,000 Cost of goods sold

Inventory, January 1 . . . . 42,000 Purchases . . . . $200,000

Less: Purchase returns

and allowances . . . . $6,000

Purchase discounts . . 03,000 0009,000 Net purchases . . . . 191,000 Add: Freight-in . . . . 0010,000

Cost of goods purchased . . . 0201,000

Cost of goods available for

sale . . . . 243,000 Inventory, January 31 . . . . 0063,000

Cost of goods sold . . . . . 0180,000

Gross profit . . . . 111,000 Operating expenses

Salary expense . . . . 61,000 Rent expense . . . . 19,000 Insurance expense . . . . 12,000 Freight-out . . . . 0005,000

Total operating

expense . . . . 0097,000

Net income . . . . $014,000

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Ending inventory——physical count . . . . 1. No effect—title passes to purchaser upon shipment

when terms are FOB shipping point . . . . 2. No effect—title does not transfer to Canada until

goods are received . . . . 3. Add to inventory: Title passed to Canada when goods

were shipped . . . . 4. Add to inventory: Title remains with Canada until

purchaser receives goods . . . . 5. The goods did not arrive prior to year-end. The goods,

therefore, cannot be included in the inventory . . . . Correct inventory . . . .

$297,000) 0) 0) 25,000) 40,000) 0044,000)(

$318,000

EXERCISE 9-5

FIFO

Beginning inventory (30 X $8) . . . . $240 Purchases

May 15 (25 X $10) . . . . $250

May 24 (35 X $13) . . . . 0455 0705 Cost of goods available for sale . . . . 945 Less: Ending inventory (12 X $13) . . . . 0156 Cost of goods sold . . . . $789

Proof

Date Units Unit Cost Total Cost

5/1 5/15 5/24

30 25 23

$08 010 013

$240 0250 0299

$789 LIFO

Cost of goods available for sale . . . . $945 Less: Ending inventory (12 X $8) . . . . 0096 Cost of goods sold . . . . $849

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EXERCISE 9-5 (Continued)

Proof

Date Units Unit Cost Total Cost

5/24 5/15 5/1

35 25 18

$13 010 008

$455 0250 0144

$849 EXERCISE 9-6

(a) FIFO

Beginning inventory (200 X $5) . . . . $1,000 Purchases

June 12 (300 X $6) . . . . $1,800

June 23 (500 X $7) . . . . 03,500 05,300 Cost of goods available for sale . . . . 6,300 Less: Ending inventory (180 X $7) . . . . 01,260 Cost of goods sold . . . . $5,040

LIFO

Cost of goods available for sale . . . . $6,300 Less: Ending inventory (180 X $5) . . . . 00900 Cost of goods sold . . . . $5,400 (b) The FIFO method will produce the higher ending inventory because costs have been rising. Under this method, the earliest costs are as- signed to cost of goods sold, and the latest costs remain in ending inventory. For Luxenburg Company, the ending inventory under FIFO is

$1,260 (180 X $7) compared to $900 (180 X $5) under LIFO.

(c) The LIFO method will produce the higher cost of goods sold for Luxen- burg Company. Under LIFO the most recent costs are charged to cost of goods sold and the earliest costs are included in the ending inven- tory. The cost of goods sold is $5,400 [$6,300 – (180 X $5)] compared to

$5,040 ($6,300 – $1,260) under FIFO.

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(a) Cost of Goods Available for Sale

$6,300

+

Total Units Available for Sale

1,000

=

Weighted Average Unit Cost

$6.30 Ending inventory (180 X $6.30) $1,134

Cost of goods sold (820 X $6.30) 05,166

(b) Ending inventory is lower than FIFO ($1,260) and higher than LIFO ($900). In contrast, cost of goods sold is higher than FIFO ($5,040) and lower than LIFO ($5,400).

(c) The average cost method uses a weighted average unit cost, not a sim- ple average of unit costs.

EXERCISE 9-8

Lower of Cost or Market by:

Cost Market

(a) Individual

Items

(b) Major Categories

(c) Total Inventory Cameras

Minolta Canon Total

Light Meters Vivitar Kodak Total

Total inventory

$0,850 01,050 01,900

01,500 01,150 02,650

$4,550

$0,800 01,064 01,864

01,320 01,350 02,670

$4,534

$0,800 01,050

01,320 01,150 00,000

$4,320

$1,864

02,650

$4,514 $4,534

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EXERCISE 9-9

1999 2000

Beginning inventory . . . . Cost of goods purchased . . . . Cost of goods available for sale . . . . Corrected ending inventory . . . . Cost of goods sold . . . .

$020,000 0150,000 0170,000 0026,000^a

$144,000

$026,000 0175,000 0201,000 0038,000^b

$163,000

a$30,000 – $4,000 = $26,000. ^b$35,000 + $3,000 = $38,000.

EXERCISE 9-10

(a) 1999 2000

Sales . . . . Cost of goods sold

Beginning inventory . . . . Cost of goods purchased . . . . Cost of goods available for sale . . . . . Ending inventory ($40,000 – $6,000) . . Cost of goods sold . . . . Gross profit . . . .

$210,000 0032,000 0173,000 0205,000 0034,000 0171,000

$039,000

$250,000 0034,000 0202,000 0236,000 0052,000 0184,000

$066,000 (b) The cumulative effect on total gross profit for the two years is zero as

shown below:

Incorrect gross profits: $45,000 + $60,000 = $105,000 Correct gross profits: $39,000 + $66,000 = 0105,000

Difference $000,000

(c) Dear Mr./Ms. President:

Because your ending inventory of December 31, 1999 was overstated by

$6,000, this resulted in your net income for 1999 being overstated and for 2000 being understated by $6,000.

In a periodic system, the cost of goods sold is calculated by deducting the cost of ending inventory from the total cost of goods you have available for sale in the period. Therefore, if this ending inventory figure is overstated, as it was in December 1999, then the cost of goods sold

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is understated and therefore net income will be overstated by that amount. Consequently, this overstated ending inventory figure goes on to become the next period's beginning inventory amount and is a part of the total cost of goods available for sale. Therefore, the mistake repeats itself in the reverse.

The error also affects the balance sheet at the end of 1999. The inven- tory reported in the balance sheet is overstated; therefore, total assets are overstated. The overstatement of the 1999 net income results in the capital account balance being overstated. The balance sheet at the end of 2000 is correct because the overstatement of the capital account at the end of 1999 is offset by the understatement of the 2000 net income and the inventory at the end of 2000 is correct.

Thank you for allowing me to bring this to your attention. If you have any questions, please contact me at your convenience.

Sincerely,

EXERCISE 9-11

1997 1998 1999

Inventory turnover ratio

= 3.6 = 3.2 = 2.8

Days in

inventory = 101.4 days = 114.1 days = 130.4 days

Gross

profit rate = .25 = .30 = .34

The inventory turnover decreased by approximately 22% from 1997 to 1999 while the days in inventory increased by almost 29% over the same time period. Both of these changes would be considered negative in nature since it's better to have a higher inventory turnover ratio with a corresponding lower days in inventory. However, Wasicsko's gross profit rate increased by 36%

from 1997 to 1999, which is a positive sign.

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*EXERCISE 9-12

(a) Net sales ($51,000 – $1,000) . . . . $50,000 Less: Estimated gross profit (30% X $50,000) . . . . 015,000 Estimated cost of goods sold . . . . $35,000 Beginning inventory . . . . $20,000 Cost of goods purchased ($28,200 – $1,400 + $1,200) . . . . 028,000 Cost of goods available for sale . . . . 48,000 Less: Estimated cost of goods sold . . . . 035,000 Estimated cost of merchandise lost . . . . $13,000 (b) Net sales . . . . $50,000 Less: Estimated gross profit (25% X $50,000) . . . . 012,500 Estimated cost of goods sold . . . . $37,500 Beginning inventory . . . . $25,000 Cost of goods purchased . . . . 028,000 Cost of goods available for sale . . . . 53,000 Less: Estimated cost of goods sold . . . . 037,500 Estimated cost of merchandise lost . . . . $15,500

*EXERCISE 9-13

Women's Department

Men's Department

Cost Retail Cost Retail

Beginning inventory Goods purchased

Goods available for sale Net sales

Ending inventory at retail

$032,000 0148,000

$180,000

$045,000 0182,000 227,000 0187,000

$040,000

$046,450 0137,300

$183,750

$060,000 0185,000 245,000 0195,000

$050,000

Cost/retail ratio = 79% = 75%

Estimated cost of

ending inventory $40,000 X 79% = $31,600 $50,000 X 75% = $37,500

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(1) FIFO

Jan. 1 8 10 15

(6 @ $640) $3,840

(2 @ $600) $1,200

(2 @ $600)

(2 @ $640) $2,480

(4 @ $600) $2,400 (2 @ $600) 1,200 (2 @ $600)

(6 @ $640) 5,040 (4 @ $640) 2,560

(2) LIFO

Jan. 1 8 10 15

(6 @ $640) $3,840

(2 @ $600) $1,200

(4 @ $640) $2,560

(4 @ $600) $2,400 (2 @ $600) 1,200 (2 @ $600)

(6 @ $640) 5,040 (2 @ $600)

(2 @ $640) 2,480

(3) AVERAGE COST

Jan. 1 8 10 15

(6 @ $640) $3,840

(2 @ $600) $1,200 (4 @ $630) $2,520

(4 @ $600) $2,400 (2 @ $600) 1,200 (8 @ $630)* 5,040 (4 @ $630) 2,520

*Average cost = $5,040 ÷ 8 = $630

(22)

SOLUTIONS TO PROBLEMS

PROBLEM 9-1A

(a) General Journal J1

Date Account Titles and Explanation Ref. Debit Credit Apr. 5 Purchases

Accounts Payable

510 201

1,600

1,600 7 Freight-in

Cash

516 101

0,080

0,080 9 Accounts Payable

Purchase Returns and Allowances

201 512

0,100

0,100 10 Accounts Receivable

Sales

112 401

0,900

0,900 12 Purchases

510 201

0,660

0,660 14 Accounts Payable ($1,600 – $100)

Purchase Discounts ($1,500 X 2%) Cash

201 514 101

1,500

0,030 1,470 17 Accounts Payable

201 512

0,060

0,060 20 Accounts Receivable

Sales

112 401

0,700

0,700 21 Accounts Payable ($660 – $60)

Purchase Discounts ($600 X 1%)

Cash

201 514 101

0,600

0,006 0,594

(23)

Date Account Titles and Explanation Ref. Debit Credit Apr. 27 Sales Returns and Allowances

Accounts Receivable

412 112

0,030

0,030 30 Cash

Sales

101 401

0,600

0,600 30 Cash

101 112

1,100

(b)

Cash No. 101

Date Explanation Ref. Debit Credit Balance

Apr. 1 7 14 21 30 30

Balance ✓

J1 J1 J1 J1 J1

0,600 1,100

0,080 1,470 0,594

2,500 2,420 0,950 0,356 0,956 2,056

Accounts Receivable No. 112

Apr. 10 20 27 30

J1 J1 J1 J1

0,900 0,700

0,030 1,100

0,900 1,600 1,570 0,470

Merchandise Inventory No. 120

Apr. 1 Balance ✓ 3,500

(24)

PROBLEM 9-1A (Continued)

Accounts Payable No. 201

Apr. 5 9 12 14 17 21

J1 J1 J1 J1 J1 J1

0,100 1,500 0,060 0,600

1,600 0,660

1,600 1,500 2,160 0,660 0,600 0,000

C. Lopez, Capital No. 301

Apr. 1 Balance ✓ 06,000

Sales No. 401

Apr. 10 20 30

J1 J1 J1

0,900 0,700 0,600

0,900 1,600 2,200

Sales Returns and Allowances No. 412

Apr. 27 J1 0,030 0,030

Purchases No. 510

Apr. 5 12

J1 J1

1,600 0,660

1,600 2,260

(25)

Purchase Returns and Allowances No. 512

Apr. 9 17

J1 J1

100 060

100 160

Purchase Discounts No. 514

Apr. 14 21

J1 J1

030 006

030 036

Freight-in No. 516

Apr. 7 J1 080 080

(c) CHI CHI'S PRO SHOP

Trial Balance April 30, 1999

Debit Credit Cash . . . .

Accounts Receivable . . . . Merchandise Inventory . . . . Capital . . . . Sales . . . . Sales Returns and Allowances . . . . Purchases . . . . Purchase Returns and Allowances . . . . Purchase Discounts . . . . Freight-in . . . .

$2,056 00,470 03,500

00,030 02,260

00,080

$8,396

$6,000 02,200

00,160 00,036 00,000

$8,396

(26)

(d) CHI CHI'S PRO SHOP

Income Statement (Partial) For the Month Ended April 30, 1999 Sales revenues

allowances . . . . 00,030

Net sales . . . . 2,170 Cost of goods sold

Inventory, April 1 . . . . $3,500 Purchases . . . . $2,260

Less: Purchase returns and

allowances . . . . $160

Purchase discounts . . . 0036 00,196 Net purchases . . . . 2,064 Add: Freight-in . . . . 00,080

Cost of goods purchased . . . . 02,144

sale . . . . 5,644 Inventory, April 30 . . . . 04,200

Gross profit . . . . $0,726

(27)

ASIAN DEPARTMENT STORE Income Statement

For the Year Ended November 30, 1999 Sales revenues

Sales $860,000

Less: Sales returns and

allowances . . . . 0010,000

Inventory, Dec. 1, 1998 . . . . $034,360 Purchases . . . . $640,000

allowances . . . . $3,000

Purchase discounts . . 07,000 0010,000 Net purchases . . . . 630,000 Add: Freight-in . . . . 0005,060

Cost of goods available

for sale . . . . 669,420 Inventory, Nov. 30, 1999 . . . . . 0036,200

Gross profit 216,780

Operating expenses Selling expenses

Salaries expense . . . . 84,000 ($120,000 X 70%)

Sales commissions

expense . . . . 12,000 Depreciation expense—

store equipment . . . . 9,500 Delivery expense . . . . 8,200 Insurance expense . . . . . 4,500

($9,000 X 50%)

Depreciation expense—

delivery equipment . . . 0004,000 Total selling

expenses . . . . 122,200

(28)

ASIAN DEPARTMENT STORE Income Statement (Continued) For the Year Ended November 30, 1999 Administrative expenses

Salaries expense . . . . 36,000 ($120,000 X 30%)

Rent expense . . . . 19,000 Utilities expense . . . . 10,600 Insurance expense . . . . . 4,500

($9,000 X 50%)

Property tax expense . . . 0003,500 Total administrative

expenses . . . . 0073,600

Total operating

expenses . . . . 0195,800

Net income . . . . $020,980

(29)

(a) COST OF GOODS AVAILABLE FOR SALE

Date Explanation Units Unit Cost Total Cost

1/1 3/15 7/20 9/4 12/2

Beginning inventory Purchase

Purchase Purchase Purchase Total

0,100 0,300 0,200 0,300 0,100 1,000

$20 024 025 028 030

$02,000 007,200 005,000 008,400 003,000

$25,600

(b) FIFO

(1) Ending Inventory Date Units

Unit Cost

Total Cost 12/2

9/4

100 050 150

$30 028

$3,000 01,400

$4,400

Proof of Cost of Goods Sold Date Units

Unit Cost

Total Cost 1/1

3/15 7/20 9/4

100 300 200 250 850

$20 024 025 028

$02,000 007,200 005,000 007,000

$21,200

(2) Cost of Goods Sold Cost of goods

available for sale $25,600 Less: Ending

inventory 004,400

Cost of goods sold $21,200

(30)

LIFO (1) Ending Inventory

Date Units

Unit Cost

Total Cost 1/1

3/15

100 050 150

$20 024

$2,000 01,200

$3,200

Proof of Cost of Goods Sold Date Units

Unit Cost

Total Cost 12/2

9/4 7/20 3/15

100 300 200 250 850

$30 028 025 024

$03,000 008,400 005,000 006,000

$22,400

inventory 003,200

AVERAGE COST (1) Ending Inventory

$25,600 ÷ 1,000 = $25.60 Units

Unit Cost

Total Cost

150 $25.60 $3,840

Proof of Cost of Goods Sold 850 units X $25.60 = $21,760

inventory 003,840

(c) (1) As shown in (b) above, FIFO produces the highest inventory amount, $4,400.

(2) As shown in (b) above, LIFO produces the highest cost of goods sold, $22,400.

(31)

(a) AFRICAN CO.

Condensed Income Statements For the Year Ended December 31, 1999

FIFO LIFO

Sales . . . . Cost of goods sold

Beginning inventory . . . . Cost of goods purchased . . . . Cost of goods available for sale . . . . . Ending inventory . . . . Cost of goods sold . . . . Gross profit . . . . Operating expenses . . . . Income before income taxes . . . . Income tax expense (28%) . . . . Net income . . . .

$665,000 0035,000 0460,000 0495,000 0111,000^a 0384,000 0281,000 0120,000 0161,000 0045,080

$115,920

$665,000 0035,000 0460,000 0495,000 0095,000^b 0400,000 0265,000 0120,000 0145,000 0040,600

$104,400

a20,000 @ $4.50 + 5,000 @ $4.20 = $111,000.

b10,000 @ $3.50 + 15,000 @ $4.00 = $95,000.

(b) Answers to questions:

(1) The FIFO method produces the most meaningful inventory amount for the balance sheet because the units are costed at the most re- cent purchases.

(2) The LIFO method produces the most meaningful net income be- cause the costs of the most recent purchases are matched against sales.

(3) The FIFO method is most likely to approximate actual physical flow because the oldest goods are usually sold first to minimize spoilage and obsolescence.

(4) There will be $4,480 additional cash available under LIFO because income taxes are $40,600 under LIFO and $45,080 under FIFO.

(32)

(5) The illusionary profit is $16,000 ($281,000 – $265,000). Under LIFO, African Co. has recovered the current replacement cost of the units ($400,000), whereas under FIFO, it has only recovered the earlier costs ($384,000). This means that under FIFO, the company must reinvest $16,000 of the gross profit to replace the units used.

(b) Answer in business-letter form:

Dear African Co.:

After preparing the comparative condensed income statements for 1999 under FIFO and LIFO methods, we have found the following:

The FIFO method produces the most meaningful inventory amount for the balance sheet because the units are costed at the most recent pur- chases. This method is most likely to approximate actual physical flow because the oldest goods are usually sold first to minimize spoilage and obsolescence.

The LIFO method produces the most meaningful net income because the costs of the most recent purchases are matched against sales. There will be $4,480 additional cash available under LIFO because income taxes are $45,080 under LIFO and $40,600 under FIFO.

There exists an illusionary profit under FIFO of $16,000 ($281,000 –

$265,000). Under LIFO, you have recovered the current replacement cost of the units ($400,000) whereas under FIFO you have only recovered the earlier costs ($384,000). This means that under FIFO, the company must reinvest $16,000 of the gross profit to replace the units used.

Sincerely,

(33)

(a) November Net sales

Cost of goods sold

Beginning inventory Purchases

Less: Purchase returns and allowances Purchase discounts

Add: Freight-in

Cost of goods purchased

Cost of goods available for sale Ending inventory

Cost of goods sold Gross profit

$022,100 314,975 (11,800)

(8,577) 0004,402 0299,000 321,100 0029,100

$400,000

0292,000

$108,000 Gross profit rate = = 27%

(b) Net sales . . . . $300,000 Less: Estimated gross profit . . . . 0081,000

(27% x $300,000)

Estimated cost of goods sold . . . . $219,000 Beginning inventory . . . . $029,100 Purchases . . . . $236,000

allowances . . . . $5,000

Purchase discounts . . . . 06,000 0011,000 Net purchases . . . . 225,000 Freight-in . . . . 0003,700

Cost of goods purchased . . . . 0228,700 Cost of goods available for sale . . . . 257,800 Less: Estimated cost of goods

sold . . . . 0219,000 Estimated inventory lost in fire . . . . . $038,800

(34)

*PROBLEM 9-6A

(a) Hardcovers Paperbacks

Cost Retail Cost Retail

Beginning inventory Purchases

Freight-in

Purchase discounts Goods available for sale Net sales

Ending inventory

$0,260,000 01,180,000 00,005,000 00,015,000)(

$1,430,000

$0,400,000 1,800,000 00,000,000 2,200,000 01,810,000

$0,390,000

$065,000 0266,000 0002,000 0004,000)(

$329,000

$090,000 380,000 0000,000 470,000 0363,000

$107,000

Cost-to-retail ratio: Hardcovers—($1,430,000 ÷ $2,200,000) = 65%.

Paperbacks—($329,000 ÷ $470,000) = 70%.

Estimated inventory at cost: ($390,000 X 65%) = $253,500—Hardcovers.

($107,000 X 70%) = $74,900—Paperbacks.

(b) Hardcovers—$400,000 X 65% = $260,000 Paperbacks—$100,000 X 70% = $70,000

(35)

(a) (1) FIFO

July 1 6 11 14 21 27

(5 @ $90) $450 (4 @ $99) $396

(3 @ $106) $318

(3 @ $90) $270

(2 @ $90)

(1 @ $99) $279

(3 @ $99)

(1 @ $106) $403

(5 @ $90) $450 (2 @ $90) $180 (2 @ $90)

(4 @ $99) $576 (3 @ $99) $297 (3 @ $99)

(3 @ $106) $615 (2 @ $106) $212

(2) Average Cost

July 1 6 11 14 21 27

(5 @ $90) $450 (4 @ $99) $396 (3 @ $106) $318

(3 @ $90) $270 (3 @ $96) $288 (4 @ $101) $404

(5 @ $90) $450 (2 @ $90) $180 (6 @ $96)* $576 (3 @ $96) $288 (6 @ $101)** $606 (2 @ $101) $202

**$576 ÷ 6 = $96

**$606 ÷ 6 = $101

(36)

*PROBLEM 9-7A (Continued)

(3) LIFO

July 1 6 11 14 21

27

(5 @ $90) $450 (4 @ $99) $396

(3 @ $106) $318

(3 @ $90) $270

(3 @ $99) $297

(3 @ $106)

(1 @ $99)0 $417

(5 @ $90) $450 (2 @ $90) $180 (2 @ $90)

(4 @ $99) $576 (2 @ $90)

(1 @ $99) $279 (2 @ $90)

(1 @ $99)

(3 @ $106) $597 (2 @ $90) $180

(b) The highest ending inventory is $212 under the FIFO method.

(37)

(a) General Journal J1 Date Account Titles and Explanation Ref. Debit Credit Apr. 4 Purchases

510 201

640

640 6 Freight-in

Cash

516 101

040

040 8 Accounts Receivable

Sales

112 401

900

900 10 Accounts Payable

201 512

040

040 11 Purchases

Cash

510 101

300

300 13 Accounts Payable ($640 – $40)

Purchase Discounts ($600 X 3%) Cash

201 514 101

600

018 582 14 Purchases

510 201

700

700 15 Cash

101 512

050

050 17 Freight-in

Cash

516 101

030

Sales

112 401

800

800 20 Cash

101 112

500

(38)

PROBLEM 9-1B (Continued)

Date Account Titles and Explanation Ref. Debit Credit Apr. 21 Accounts Payable

Purchase Discounts ($700 X 2%) Cash

201 514 101

700

014 686 27 Sales Returns and Allowances

412 112

030

Sales

112 401

900

900 30 Cash

101 112

500

(b)

Cash No. 101

Apr. 1 6 11 13 15 17 20 21 30

Balance ✓

J1 J1 J1 J1 J1 J1 J1 J1

050 500 500

040 300 582 030 686

2,500 2,460 2,160 1,578 1,628 1,598 2,098 1,412 1,912

Accounts Receivable No. 112

Apr. 8 18 20 27 30 30

J1 J1 J1 J1 J1 J1

900 800

900

500 030 500

0,900 1,700 1,200 1,170 2,070 1,570

(39)

Merchandise Inventory No. 120

Apr. 1 Balance ✓ 1,700

Accounts Payable No. 201

Apr. 4 10 13 14 21

J1 J1 J1 J1 J1

040 600 700

640

700

0,640 0,600 0,000 0,700 0,000

B. J. Evert, Capital No. 301

Apr. 1 Balance ✓ 4,200

Sales No. 401

Apr. 8 18 30

J1 J1 J1

900 800 900

0,900 1,700 2,600

Sales Returns and Allowances No. 412

Apr. 27 J1 030 0,030

Purchases No. 510

Apr. 4 11 14

J1 J1 J1

640 300 700

0,640 0,940 1,640

(40)

PROBLEM 9-1B (Continued)

Purchase Returns and Allowances No. 512

Apr. 10 15

J1 J1

40 50

40 90

Purchase Discounts No. 514

Apr. 13 21

J1 J1

18 14

18 32

Freight-in No. 516

Apr. 6 17

J1 J1

40 30

40 70

(c) B. J.'S TENNIS SHOP

Trial Balance April 30, 1999

Debit Credit Cash . . . .

Accounts Receivable . . . . Merchandise Inventory . . . . Capital . . . . Sales . . . . Sales Returns and Allowances . . . . Purchases . . . . Purchase Returns and Allowances . . . . Purchase Discounts . . . . Freight-in . . . .

$1,912 01,570 01,700

00,030 01,640

00,070

$6,922

$4,200 02,600

00,090 00,032 00,000

$6,922

(41)

(d) B. J.'S TENNIS SHOP Income Statement (Partial) For the Month Ended April 30, 1999 Sales revenues

allowances . . . . 00,030

Inventory, April 1 . . . . $1,700 Purchases . . . . $1,640

allowances . . . . $90

Purchase discounts . . . 032 00,122 Net purchases . . . . 1,518 Add: Freight-in . . . . 00,070

Cost of goods purchased . . . . 01,588

sale . . . . 3,288 Inventory, April 30 . . . . 01,800

Gross profit . . . . $1,082

(42)

PROBLEM 9-2B

AUSTRIAN DEPARTMENT STORE Income Statement

For the Year Ended December 31, 1999 Sales revenues

Sales $618,000

Less: Sales returns and

allowances . . . . 0008,000

Inventory, January 1 . . . . $040,500 Purchases . . . . $462,000

Less: Purchase discounts . . $12,000 Purchase returns and

allowances . . . . 006,400 0018,400 Net purchases . . . . 443,600 Add: Freight-in . . . . 0003,600

Cost of goods available

for sale . . . . 487,700 Inventory, December 31 . . . . . 0075,000

Gross profit 197,300

Operating expenses Selling expenses

Sales salaries

expense . . . . 74,000 Sales commissions

expense . . . . 14,500 Depreciation expense—

equipment . . . . 13,300 Utilities expense

($11,000 X 60%) . . . . 6,600 Insurance expense

($7,200 X 60%) . . . . 0004,320 Total selling

expenses . . . . 112,720

(43)

AUSTRIAN DEPARTMENT STORE Income Statement (Continued) For the Year Ended December 31, 1999 Administrative expenses

Office salaries expense . . 32,000 Depreciation expense—

building . . . . 10,400 Property tax expense . . . 4,800 Utilities expense

($11,000 X 40%) . . . . 4,400 Insurance expense

($7,200 X 40%) . . . . 0002,880 Total administrative

expenses . . . . 0054,480

Total operating

expenses . . . . 0167,200

Net income . . . . $030,100