Flashcards in Ch 9 Deck (49):
How do companies record inventories that lose value?
Company abandons historical cost principal
When revenue producing ability drops
Report inventories at lower-of-market-cost each period
How does IFRS and. GAAP define "market"
IFRS market = net realizable value
GAAP market = replacement cost subject to certain
Cost to replace item by purchase or reproduction
Companies value goods at cost or cost to replace,
Whichever is lower
Cost of inventory
Acquisition price of inventory computed using historical
Cost methods (FIFO, LIFO etc.)
A company should charge a loss of utility (ability to produce revenues) Against revenues...
In the period when the loss occurs, not in period of sale
Lower-of-cost-or-market method is considered what kind of approach to inventory valuation?
Net realizable value (NRV)
Estimated selling price in ordinary course of business,
Less reasonably predictable costs of completion
General lower-of-cost-or-market rule: company values inventory at the lower-of-cost-or-market, with...
Market limited to amount no more than net realizable value
Or less than net realizable value less normal profit margin
Upper limit (ceiling), lower limit (floor)
Net realizable value of inventory
LL: net realizable value less normal profit margin
IFRS, determining market?
IFRS does not use ceiling or floor to determine market
Designated market cost
Amount company compares to cost
Always middle value of replacement cost, net realizable
value and net realizable value less normal profit margin
Recording market instead of cost: Cost of goods sold method
Debits cost of goods sold for the write down of inventory
Recording market instead of cost: Loss method
Debits loss acct. for write down of inventory to market
4 Conceptual deficiencies of lower cost market rule?
1 decreases in value of asset charged in period
of loss of utility, increases of asset recognized in point
2 inconsistency as rule may lead to value of inventory
at cost in 1 year and at market the next year
3 effect on balance sheet conservative, effect on income
Statement may not be
4 normal profit = past experience measure so may
Be used for income manipulation
Lump-sum purchase AKA Basket purchase
Company buys group of units in single purchase
Relative sales value
Allocate value of each unit by on basis of relative sales value
Agreements to buy inventories weeks, months or
Years in advance
If a contract price is greater than market price and the buyer expects losses will occur when the purchase is effected in purchase commitments...
How should this be accounted for?
Company should recognize losses in periods where
Declines in market prices take place
Hedging, Purchaser in purchase commitment...
simultaneously Enters into contract which agrees to
sell in future Same quantity of same goods at fixed price
Company holds buy position in purchase commitment
And sell position in futures contract in same commodity
3 assumptions of Gross Profit Method AKA Gross margin method?
1 beginning inventory + purchases
= total goods to be accounted for
2 goods Not sold must be on hand
3 sales reduced to cost
deducted from (opening inventory + purchases)
= ending inventory
Gross profit percentage
percentage of selling price
Gross profit equation?
Cost + gross profit = selling price
Retailer formula: gross profit on selling price
Gross profit on selling price =
(% markup on cost)/(100% + percentage markup on cost)
Retailer equation: Percentage markup on cost equation
% markup on cost =
(Gross profit on selling price)/(100% - gross profit on selling price)
3 major disadvantages of gross profit method for inventory?
1 provides an estimate
2 uses past percentages
3 blanket (widely varying) gross profit rate is inaccurate
3 items retail inventory method keeps record of?
1) total cost and retail value of goods purchased
2) total cost and retail value of goods available for sale
3) sales for period
Cost-to-retail ratio =
total goods available for sale (at cost)
/total goods available at retail price
Retail inventory method is advantageous (3 ways) because it can...
Approximate inventory balance without physical count,
Estimate losses, serve as control device
Retail Inventory method is useful for interim reports because such reports usually need..
Quick and reliable measure of inventory
Helps company explain deviations from physical count
At end of year
Additional markup of original retail price
Decreases in price of merchandise that retailer had
Marked up above original retail price
Decreases in original sales prices
Used in competitive markets
Occur when markdowns are later offset by increases
In prices of goods that retailers had marked down
Value of ending inventory equation?
Value of ending inventory = ending inventory at retail X cost ratio
Conventional retail inventory method AKA Lower-of-cost-or-market approach
Cost ratio using markups but not mark downs
Approximates lower-of-average-cost-or-market ratio
Comprehensive conventional retail inventory method format:
Cost-to-retail ratio equation?
Cost-to-retail ratio =
Cost of goods available/
original retail price of goods available, + net mark ups
How are freight costs treated in retail method?
Part of purchase costs
How are purchase returns treated in the retail method?
Ordinarily considered as reduction of price at both
cost and retail
How are purchase discounts and allowances treated using the retail method?
Considered as reduction of cost of purchases
Retail method: treatment of sales returns and allowances?
Considered proper adjustments to gross sales
When sales are considered gross, under the retail method, companies...
Don't recognize sales discounts
Retail method: transfer in from another department
Reported in same way as purchases from outside company
Retail method: normal shortages
Deduction in retail column
Retail method: abnormal shortages
Deducted from both the cost and retail columns
Reported as special inventory amount or as loss
Retail method: Employee discounts
Deducted from retail column
One noticeable characteristic of retail inventory method is?
Has an averaging effect on varying rates of gross profit
Inventory turnover, definition, equation?
Measures # of times on avg. a company sells the inventory
During the period, measures liquidity of inventory
Inventory turnover = cost of goods sold/avg. inventory