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Review Class for ACT111-0 and ACT112-0

E.T Yuchengco School of Business and Management


MODULE 6
INVENTORIES

Definition
Inventories include assets held for sale in the ordinary course of business, assets in the production
process for sale in the ordinary course of business, and materials and supplies that are consumed in
production.
Inventory Accounting Systems
In a periodic inventory system, revenues from the sale of merchandise are recorded when sales are
made in the same way as in a perpetual system. But, no attempt is made on the date of sale to record
the cost of the merchandise sold. Instead, a physical inventory count is taken at the end of the period to
determine the cost of the merchandise then on hand and the cost of the goods sold during the period.
In a perpetual inventory system, a company determines the costs of goods sold each time a sale
occurs. Companies maintain detailed records of the cost of each inventory purchase and sale. For
control purposes, companies take a physical inventory count, even though it is not needed to determine
cost of goods sold.
Inventory Cost Flow Method
After a company has determined the quantity of units of inventory, it applies unit costs to the quantities to
determine the total cost of the inventory and the cost of goods sold.
1. The Specific Identification method tracks the actual physical flow of the goods so that the cost of
the specific unit sold is charged to the cost of goods sold. This method is possible when a company
sells a limited variety of high unit-cost items that can be clearly identified from the time of purchase
through the time of sale.
2. The FIFO (First In, First Out) method assumes that the costs of the earliest goods purchased are
the first to be sold. This method often parallels the actual physical flow of the merchandise. Under
this method, the ending inventory is based on the latest units purchased.
3. The Average Cost method assumes that the goods available for sale are identical. Under this
method, the cost of goods available for sale is allocated on the basis of weighted-average unit cost.
The formula for determining the weighted average unit cost is: Cost of goods available for sale
divided by total units available for sale.
4. The LIFO (Last In, First Out) method assumes that the costs of the latest units purchased are the
first to be sold. This method seldom coincides with the actual physical flow of inventory. However,
international accounting standards no longer permits the use of LIFO.
Illustrative Example. Taos Companys record of transactions concerning part TXF-532 for the month of
April was as follows.
Purchases
Sales
April 1 (balance on hand)
100 @ P5.00
April 5
300
4
400 @ 5.10
12
200
11
300 @ 5.30
27
800
18
200 @ 5.35
28
100
26
500 @ 5.60
30
200 @ 5.80
Required:
a. Compute the inventory at April 30 using (1) FIFO and (2) Average Cost. Assume that perpetual
inventory records are kept in units only. Carry unit costs to the nearest centavo.
b. If the perpetual inventory record is kept, and costs are computed at the time of each withdrawal, what
amount would be shown as ending inventory using (1) FIFO and (2) Average Cost? Carry average
unit costs to four decimal places.

Review Class for ACT111-0 and ACT112-0

E.T Yuchengco School of Business and Management

Solution:
a.

Purchases
Total Units
April 1 (balance on hand)
April 4
April 11
April 18
April 26
April 30
Total units
Total units sold
Total units (ending inventory)

Sales
Total Units
100
400
300
200
500
200
1,700
1,400
300

April 5
April 12
April 27
April 28
Total units

300
200
800
100
1,400

Assuming costs are not computed for each withdrawal:


(1) FIFO
Date of Invoice
April 30
April 26

No. Units
200
100

Unit Cost
P5.80
5.60

Total Cost
P1,160
560
P1,720

No. Units
100
400
300
200
500
200
1,700

Unit Cost
P5.00
5.10
5.30
5.35
5.60
5.80

Total Cost
P 500
2,040
1,590
1,070
2,800
1,160
P9,160

(2) Average cost


Date of Invoice
April 1
April 4
April 11
April 18
April 26
April 30
Total Available

Average cost per unit = P9,160 1,700 = P5.39.


Inventory, April 30 = 300 x P5.39 = P1,617.
b. Assuming costs are computed for each withdrawal:
(1) First-in, first out.
The inventory would be the same in amount as in part (a), P1,720.
(2) Average cost.

Date
April 1
April 4
April 5
April 11
April 12
April 18
April 26
April 27
April 28
April 30

Purchased
No. of
Unit
units
cost
100
P5.00
400
5.10
300

5.30

200
500

5.35
5.60

200

5.80

No. of
units

Sold
Unit cost

300

P5.0800

200

5.2120

800
100

5.4336
5.4336

No. of
units
100
500
200
500
300
500
1,000
200
100
300

Inventory April 30 is P1,703.


*Four decimal places are used to minimize rounding errors.

Balance
Unit
cost*
Amount
P5.0000 P 500.00
5.0800
2,540.00
5.0800
1,016.00
5.2120
2,606.00
5.2120
1,563.60
5.2672
2,633.60
5.4336
5,433.60
5.4336
1,086.72
5.4336
543.36
5.6779
1,703.36

Review Class for ACT111-0 and ACT112-0

E.T Yuchengco School of Business and Management

Sample Theory Questions


1. When choosing between using a periodic or perpetual inventory system, a company would consider
which of the following?
A. Which method produces the highest net income.
B. Which method produces the highest asset values.
C. Which method produces the best cost-benefit relationship.
D. Which method is most reliable.
2. The specific identification method can be used only
A. In income tax returns.
B. For financial reporting purposes (but not in income tax returns).
C. When the individual items in inventory are similar in terms of cost, function, and sales value.
D. When the actual acquisition costs of individual units can be determined from the accounting
records.
3. An inventory pricing procedure in which the oldest costs incurred rarely have an effect on the ending
inventory valuation is
A. First in, first out.
B. Last in, first out.
C. Moving average.
D. Weighted average.
4. During a period of steadily rising prices, which of the following methods of measuring the cost of
goods sold is likely to result in reporting the highest gross profit?
A. FIFO.
B. LIFO.
C. Specific identification.
D. Average cost.
5. In a period of rising prices, a company is most likely to use the LIFO method of pricing inventory if
A. Each item in the inventory is unique.
B. Management wants the same unit cost assigned to items sold and items remaining in inventory.
C. Management's primary objective is to minimize income taxes.
D. Management wants the company's income statement to indicate the highest possible amounts of
gross profit and net income.
Computational Drills
Inventory information for Part TDK-112 of Monique Aaron Corp. discloses the following information for
the month of June.
June

01 Balance
11 Purchased
20 Purchased

300 units @ P10


800 units @ P12
500 units @ P13

June

10 Sold
15 Sold
27 Sold

200 units @ P24


500 units @ P25
300 units @ P27

Required: Using the above information, complete the following table:


Periodic System
Weighted
FIFO
Average
Net sales
Beginning inventory
Purchases
Ending inventory
Cost of goods sold
Gross profit

Perpetual System
Moving
FIFO
Average

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