Chapter 9 Lecture Notes

Question 1

Advantages of FIFO

Answer 1

1. Corresponds to the physical flow in most businesses
2. Inventory on the balance sheet closest to current cost
3. Net income higher in times of rising prices
   (Balance Sheet is more current and relevant)

Question 2

Disadvantages of FIFO

Answer 2

1. COGS is not based upon current costs, LESS consistent with the matching principle
2. In times of rising prices, COGS is lower so income taxes are higher
   (Income Statement is less current and relevant)

Question 3

FIFO perpetual and periodic will have _____ total COGS and Ending Inventory.

Answer 3

EQUAL

Question 4

COGS Equation

Answer 4

Beginning Inventory
+ Purchases
(Ending Inventory)
= COGS

Question 5

Advantages of LIFO

Answer 5

1. Matches current cost with current revenue
2. In times of rising prices, TAX ADVANTAGE
3. Improved cash flow because of lower taxes
   (Income Statement is more relevant/current)

Question 6

Disadvantages of LIFO

Answer 6

1. Unrealistic inventory amount on the balance sheet
2. Cost method is not the same as the physical flow of goods (in most industries)
3. Depressed income numbers may influence financial statement users (unsophisticated users)
4. Potential manipulation of income through LIFO liquidation and timing purchases (affects profitability and year end bonuses)
   Balance Sheet is less current/relevant

Question 7

FOB Destination

Answer 7

Seller owns the goods in transit

Seller should account for goods in their inventory

Question 8

FOB Shipping Point

Answer 8

Buyer owns the goods in transit

Buyer should account for goods in their inventory

Question 9

Goods on Consignment

Answer 9

The seller, “the consignor,” should account for goods on their books
The seller, “the consignor,” owns the goods

The showroom, “the consignee’s facility,” has no rights to the goods (they make a commission on the sale of the product)

Question 10

Sales with Returns Allowed

Answer 10

Removed from seller’s inventory
(Estimate returns, reduce sales revenue and COGS, add inventory back)
At year end inventory for estimated returns should be returned to the inventory account

Question 11

Sales with Repurchase Contract

Answer 11

“Financing transaction”
Inventory stays on the seller’s books
FASB says that we haven’t really sold the goods (we’re still liable for any risk)
- Recorded as a borrowing (note payable and interest)
TAX AVOIDANCE purposes

Question 12

Repurchase Contract

Answer 12

A firm and non-cancellable contract stating that the seller plans to buy back the inventory in the future

• set price that inventory will be purchased back at
• this price covers all costs (storing and shipping costs, etc.) of inventory

Question 13

Inventory Questions

Answer 13

1. Should a purchase have been recorded during this period for the inventory?
2. Was a purchase recorded during this period for the inventory?
3. Should the inventory have been included in the inventory count this period?
4. Was the inventory included in the count for this period?

Question 14

1. No

2. Yes

Answer 14

Purchases are Overstated, COGS is Overstated

Question 15

1. Yes

2. No

Answer 15

Purchases are Understated, COGS is Understated

Question 16

3. No

4. Yes

Answer 16

Ending inventory is Overstated, COGS is Understated

Question 17

3. Yes

4. No

Answer 17

Ending inventory is Understated, COGS is Overstated

Question 18

How do you find the historical cost if you are not given the exact amount?

Answer 18

Cost + (Cost*Markup %) = Sales Price

Question 19

Specific Accounts Affected by Inventory Errors

Answer 19

1. A/R
2. A/P
3. Sales Revenue

and then COGS and Inventory