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1、Chapter 7Reporting and Interpreting Cost of Goods Sold and InventoryANSWERS TO QUESTIONS1. Inventory often is one of the largest amounts listed under assets on the balance sheet which means that it represents a significant amount of the resources available to the business. The inventory may be exces
2、sive in amount, which is a needless waste of resources; alternatively it may be too low, which may result in lost sales. Therefore, for internal users inventory control is very important. On the income statement, inventory exerts a direct impact on the amount of income. Therefore, statement users ar
3、e interested particularly in the amount of this effect and the way in which inventory is measured. Because of its impact on both the balance sheet and the income statement, it is of particular interest to all statement users.2. Fundamentally, inventory should include those items, and only those item
4、s, legally owned by the business. That is, inventory should include all goods that the company owns, regardless of their particular location at the time.3. The cost principle governs the measurement of the ending inventory amount. The ending inventory is determined in units and the cost of each unit
5、 is applied to that number. Under the cost principle, the unit cost is the sum of all costs incurred in obtaining one unit of the inventory item in its present state.4. Goods available for sale is the sum of the beginning inventory and the amount of goods purchased during the period. Cost of goods s
6、old is the amount of goods available for sale less the ending inventory.5. Beginning inventory is the stock of goods on hand (in inventory) at the start of the accounting period. Ending inventory is the stock of goods on hand (in inventory) at the end of the accounting period. The ending inventory o
7、f one period automatically becomes the beginning inventory of the next period.6(a) Average cost-This inventory costing method in a periodic inventory system is based on a weighted-average cost for the entire period. At the end of the accounting period the average cost is computed by dividing the goo
8、ds available for sale in units into the cost of goods available for sale in dollars. The computed unit cost then is used to determine the cost of goods sold for the period by multiplying the units sold by this average unit cost. Similarly, the ending inventory for the period is determined by multipl
9、ying this average unit cost by the number of units on hand.(b) FIFO-This inventory costing method views the first units purchased as the first units sold. Under this method cost of goods sold is costed at the oldest unit costs, and the ending inventory is costed at the newest unit costs.(c) LIFO-Thi
10、s inventory costing method assumes that the last units purchased are the first units sold. Under this method cost of goods sold is costed at the newest unit costs and the ending inventory is costed at the oldest unit costs.(d) Specific identification- This inventory costing method requires that each
11、 item in the beginning inventory and each item purchased during the period be identified specifically so that its unit cost can be determined by identifying the specific item sold. This method usually requires that each item be marked, often with a code that indicates its cost. When it is sold, that
12、 unit cost is the cost of goods sold amount. It often is characterized as a pick-and-choose method. When the ending inventory is taken, the specific items on hand, valued at the cost indicated on each of them, is the ending inventory amount.7. The specific identification method of inventory costing
13、is subject to manipulation. Manipulation is possible because one can, at the time of each sale, select (pick and choose) from the shelf the item that has the highest or the lowest (or some other) unit cost with no particular rationale for the choice. The rationale may be that it is desired to influe
14、nce, by arbitrary choice, both the amount of income and the amount of ending inventory to be reported on the financial statements. To illustrate, assume item A is stocked and three are on the shelf. One cost $100; the second one cost $115; and the third cost $125. Now assume that one unit is sold fo
15、r $200. If it is assumed arbitrarily that the first unit is sold, the gross profit will be $100; if the second unit is selected, the gross profit will be $85; or alternatively, if the third unit is selected, the gross profit will be $75. Thus, the amount of gross profit (and income) will vary signif
16、icantly depending upon which one of the three is selected arbitrarily from the shelf for this particular sale. This assumes that all three items are identical in every respect except for their unit costs. Of course, the selection of a different unit cost, in this case, also will influence the ending
17、 inventory for the two remaining items.8. LIFO and FIFO have opposite effects on the inventory amount reported under assets on the balance sheet. The ending inventory is based upon either the oldest unit cost or the newest unit cost, depending upon which method is used. Under FIFO, the ending invent
18、ory is costed at the newest unit costs, and under LIFO, the ending inventory is costed at the oldest unit costs. Therefore, when prices are rising, the ending inventory reported on the balance sheet will be higher under FIFO than under LIFO. Conversely, when prices are falling the ending inventory o
19、n the balance sheet will be higher under LIFO than under FIFO.9. LIFO versus FIFO will affect the income statement in two ways: (1) the amount of cost of goods sold and (2) income. When the prices are rising, FIFO will give a lower cost of goods sold amount and hence a higher income amount than will
20、 LIFO. In contrast, when prices are falling, FIFO will give a higher cost of goods sold amount and, as a result, a lower income amount.10. When prices are rising, LIFO causes a lower taxable income than does FIFO. Therefore, when prices are rising, income tax is less under LIFO than FIFO. A lower ta
21、x bill saves cash (reduces cash outflow for income tax). The total amount of cash saved is the difference between LIFO and FIFO inventory amounts multiplied by the income tax rate.11. LCM is applied when market (defined as current replacement cost) is lower than the cost of units on hand. The ending
22、 inventory is valued at market (lower), which (a) reduces net income and (b) reduces the inventory amount reported on the balance sheet. The effect of applying LCM is to include the holding loss on the income statement (as a part of CGS) in the period in which the replacement cost drops below cost r
23、ather than in the period of actual sale.12. When a perpetual inventory system is used, the unit cost must be known for each item sold at the date of each sale because at that time two things happen: (a) the units sold and their costs are removed from the perpetual inventory record and the new invent
24、ory balance is determined; (b) the cost of goods sold is determined from the perpetual inventory record and an entry in the accounts is made as a debit to Cost of Goods Sold and a credit to Inventory. In contrast, when a periodic inventory system is used the unit cost need not be known at the date o
25、f each sale. In fact, the periodic system is designed so that cost of goods sold for each sale is not known at the time of sale. At the end of the period, under the periodic inventory system, cost of goods sold is determined by adding the beginning inventory to the total goods purchased for the peri
26、od and subtracting from that total the ending inventory amount. The ending inventory amount is determined by means of a physical inventory count of the goods remaining on hand and with the units valued on a unit cost basis in accordance with the cost principle (by applying an appropriate inventory c
27、osting method).ANSWERS TO MULTIPLE CHOICE司Q49 、，、重，ac38, b、 、,，da27、，）cc165.c)10. a)AuthorsRecommended Solution Time(Time in minutes)Mini-exercisesExercisesProblemsAlternateProblemsCases and ProjectsNo靡TimeNo.TimeNoTimeNo.TimeNo.Time1234567895551055551012345678910111213141516171819202122152020101515
28、3030303015201520202020201520252512345678910303040404550404035201234304035401234567820202020402030Continuing Case130* Due to the nature of these cases and projects, it is very difficult to estimate the amount of time students will need to complete the assignment. As with any open-ended project, it is
29、 possible for students to devote a large amount of time to these assignments. While students often benefit from the extra effort, we find that some become frustrated by the perceived difficulty of the task. You can reduce student frustration and anxiety by making your expectations clear. For example
30、, when our goal is to sharpen research skills, we devote class time to discussing research strategies. When we want the students to focus on a real accounting issue, we offer suggestions about possible companies or industries.MINI-EXERCISESM7-1.Type of Inventory Work in process Finished goods Mercha
31、ndiseRaw materialsTypeofBusiness MerchandisingManufacturing凶xx XM7-2.To record the purchase of 90 new shirts in accordance with the cost principle (perpetual inventory system):Inventory (+A)2,150Cas h(-人 ).2.,1.5.0.Cost:$1,800 + $185 + $165 = $2,150.The $108 interest expense is not a proper cost of
32、the merchandise; it is recorded as prepaid interest expense and later as interest expense.M7-3.a.b.Wages of factory workersCosts of raw materials purchased(1)Part of invento仪XX(2) Expense as incurredC.Sales salariesXd.Heat, light, and power for the factory buildingXe.Heat, light, and power for the h
33、eadquarters office buildingXM7-4.Computation:Simply rearrange the basic inventory model (Bl + P -El = CGS):Cost of goods sold.+Ending inventory.-Beginning inventory.Purchases.$11,042 million 2,916 million (3,213)milIion$101745 milIionM7-5.(a)(b)Declining costsHighest net income Highest inventoryRisi
34、ng costsHighest net income Highest inventoryLIFO LIFOFIFO FIFOM7-6.LIFO is often selected when costs are rising because it reduces the companys tax liability which increases cash and benefits shareholders. However, it also reduces reported net income.M7-7.QuantityCost per ItemReplacement Cost per It
35、emLower of Cost or MarketReported on Balance SheetItem A70$110$100$10070 X $100 = $7,000Item B3060856030 X $60 = $1,800Total$8.800M7-8.+(a)Parts inventory delivered daily by suppliers instead of weekly.NE(b)Extend payments for inventory purchases from 15 days to 30 days.+(c)Shorten production proces
36、s from 10 days to 8 days.M7-9.Understatement of the 2014 ending inventory by $50,000 caused 2014 pretax income to be understated and 2015 pretax income to be overstated by the same amount.Overstatement of the 2014 ending inventory would have the opposite effect; that is, 2014 pretax income would be
37、overstated by $50,000 and 2015 pretax income understated by $50,000.Total pretax income for the two years combined would be correct.EXERCISESE7-1ItemAmountExplanationEnding inventory (physical count on$34,500Per physical inventory.December 31, 2014)a.Goods purchased and in transit+700Goods purchased
38、 and in transit,F.O.B. shipping point, are ownedby the purchaser.b.Samples out on trial to+1,800Samples held by a customer oncustomertrial are still owned by the vendor;no sale or transfer of ownershiphas occurred.C.Goods in transit to customerGoods shipped to customers,F.O.B. shipping point, are ow
39、nedby the customer becauseownership passed when they weredelivered to the transportationcompany.The inventory correctlyexcluded these items.d.Goods sold and in transit+1,500Goods sold and in transit, F.O.B.destination, are owned by the seller until they reach destination.Correct inventory, December
40、31, 2014$38,500E7-2.(Italics for missing amounts only.)Case ACase BCaseCNet sales revenue $7,500$4,800$5,000Beginning inventory $11,200$7,000$4,000Purchases. 41500 81050 91500Goods available for sale15,70015,05013,500Ending inventory 9,000 11,050 92300Cost of goods sold 61700 42000200Gross profit800
41、800800Expenses. 300 12000 700Pretax incom e . 忠 500 佥 (200) 100 E7-3.CaseSales RevenueBeg. lnven- toryPur-ch asesTotal Avail- ableEnding InventoryCost of Goods SoldGross ProfitEx-pen sesPretax Income or (Loss)A$650$100$700$800$500$300$350$200$150B1,1002009001,100300800300150150C600150350500300200400
42、100300D800150550700300400400200200E1,0002009001,100600500500550(50)(ltaIics and bold for missing amounts only.）E7-4.Computations:Simply rearrange the cost of goods sold equationBl + P -El = CGS P = CGS -Bl + ElCost of goods sold.$1,639,188,000-Beginning inventory.(385,857,000)+Ending inventory.Purch
43、ases.569,818,OOO$1,823,149,OOOE7-5AverageUnitsFIFOLIFOCostCost of goods sold:Beginning inventory ($5) 2,000$10,000$10,000$10,000Purchases (March 21) ($6) .5,00030,00030,00030,000(August 1) ($8) 3100024100024,OOO241000Goods available for sale.10,00064,00064,00064,000Ending inventory*. 41000301000221000251600Cost of goods sold* . 61000耍3 41000耍42 ,OOO$38,400*Ending inv