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ACCT 301 > Ch. 9 > Flashcards

Ch. 9 Flashcards

1
Q

When inventory declines whatever the reason (damage, physical deterioration, obsolescence, changes in price levels and other causes) a company should write down

A

The inventory to net realizable value to report loss

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2
Q

When does the company abandon the historical cost principle?

A

When the future utility (revenue producing ability) of the asset drops below its original cost

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3
Q

Cost is

A

Acquisition price of inventory computed using one of the historical cost based methods - specific identification, average cost, LIFO or FIFO

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4
Q

NRV

A

Is the net amount that a company expects to realize from the sale of inventory

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5
Q

NRV is the estimated selling price

A

In the ordinary course of business less reasonably predictable costs of completion disposal and transportation

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6
Q

LCRNV

Companies estimate NRV based on

A

Most predictable evidence of inventories realizable amounts (expected selling price, expected costs of completeion, disposal and transportation)

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7
Q

Companies usually value inventory on

A

Item by item basis

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8
Q

Individual item approach gives the most

A

Conservative valuation for balance sheet purposes

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9
Q

Company values inventory on total inventory basis when

A

It offers only one end product (comprised of many different raw materials)

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10
Q

A category approach is used when it

A

Produces several end products

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11
Q

Whatever method is used, the method should be

A

Consistent from one period to another

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12
Q

2 methods to record income effect of valuing inventory at NRV.

1
2

A
  1. COGS method

2. LOSS method

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13
Q

COGS method

A

Debits COGS sold for write down of inventory to NRV

As a result the company does not report a loss on income statement bc COGS already includes the amount of loss

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14
Q

Loss method

A

Debits loss account for write down of inventory to NRV

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15
Q

Loss method is more preferable bc

A

It clearly discloses the loss resulting from a decline in inventory to NRV

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16
Q

With respect to accounting for allowance in the subsequent period of the company still has merchandise on hand, it should

A

Retain the allowance account

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17
Q

If the allowance account is not kept then the company will

A

Overstate beginning inventory and cogs

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18
Q

If the company has sold the goods then it should

A

Close the account

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19
Q

A new allowance account is established for any

A

Decline in inventory value that takes place in the current year

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20
Q

Use of an allowance, multiple periods. In general accountants leave allowance account on the books. They adjust the balance at the next year end to agree with

A

Discrepancy between cost and LCNRV at balance sheet date

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21
Q

The use of the lower of cost or NRV method works well to measure?

A

The decline in value of a company’s inventory for most companies

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22
Q

LCNRV is designed to ?

A

Simplify and reduce the cost and complexity of inventory measurement under GAAP.

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23
Q

When using LIFO or retail inventory methods, the change to LCNRV would result in significant cost upon

A

Transitions and would not simplify their subsequent measurement of inventory

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24
Q

LCM

A

Compare a designated market value of inventory to cost

This approach begins with replacement cost and two additional limitations are applied to ending inventory NRV AND NRV less normal profit margin

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25
Q

General lower of cost or market rule is

A

A company values inventory at the lower of cost or market, with market limited to an amount that is no more than NRV or less than NRV less than normal profit margin

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26
Q

Upper limit (ceiling)

A

NRV of inventory

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27
Q

Lower limit (floor)

A

NRV less a normal profit margin

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28
Q

What is the rationale for upper limit and lower limit?

A

Prevents companies from over and understating inventory

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29
Q

Maximum limitation not to exceed NRV (ceiling) prevents overstatement of

A

Value of obsolete damanaged or shopworn inventories

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30
Q

If replacement cost of item exceeds its net realizable value a company should not

A

Report inventory at replacement cost

The company can only receive the selling price less cost of disposal

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31
Q

The minimum floor is to not be

A

Less than NRV reduced by an allowance for approximately normal profit margin

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32
Q

Minimum Floor measures

A

What the company can receiver for the inventory and still earn normal profit

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33
Q

Designated market value

A

Amount company compares to cost

34
Q

Designated market value is always

A

Middle value of three amounts , replacement cost, NRV and NRV less a normal profit margin

35
Q

Support exists for recording inventory at NRV even if

A

Amount is above cost

36
Q

GAAP permits exception to normal recognition rule under following conditions:

A
  1. Controlled market with quoted price applicable to all quantities
  2. When no significant costs of disposal are involved
  3. Product is available for immediate delivery
37
Q

Until items of inventory meet the NRV 3 conditions they are accounted for

A

Based on accumulated historical costs

38
Q

NRV is allowed when it is too difficult to

A

Obtain cost figures

39
Q

Lump sum purchase also called basket purchase

A

When a company buys a group of varying units

40
Q

Company’s survival and continued profitability depend on

A

It’s having sufficient stock of merchandise to meet customer demand

41
Q

Purchase commitments

A

Which are agreements to buy inventory weeks months or even years in advance

42
Q

In the purchase commitments who retains title to merchandise or material?

A

Seller

43
Q

It’s usually not necessary for buyer to make any entries reflect commitments for purchases of goods that seller has not shipped

A

True

44
Q

Ordinary orders for which buyer and seller will determine prices at the time of shipment and which are subject to cancellation do not represent either an asset or liability to buyer so therefore the buyer does not need to record

A

Such ourchase commitments or report them in financial statements

45
Q

What happens though if buyers enter to a formal noncanceable purchase contract ?

A

Even then the buyer recognizes no asset or liability at the date of inception because the contract is “executory” in nature: neither party has fulfilled its pet of contract

46
Q

If contract price > market price

A

Buyer expects that losses will occur when purchase is effected

47
Q

Purchases can protect themselves against the possibility of market price declines of goods under contract by

A

Hedging

48
Q

In hedging

A

The purchaser in the purchase commitment simultaneously enters into contract in which it agrees to sell in the future the same quantity or similar goods at fixed price

This the company holds a buy position in purchase commitment and a sell position in a futures contract in the same commodity

49
Q

Gross profit method

A

One substitute method of verifying or determine the inventory amount

50
Q

Gross profit method relies on 3 assumptions

A
  1. Beginning inventory + purchases = goods to be accounted for
  2. Goods not sold must be ok hand
  3. Sales reduced to cost - sum of opening inventory + purchases = ending inventory
51
Q

Gross profit percentage

A

Stated as % of selling price

52
Q

Gross profit on selling price is the most common method for quoting profit for several reasons

A
  1. Most companies state goods on retail basis not cost basis

2. A profit quoted on selling price is lower than one based on cost

53
Q

Bc selling price exceeds cost and with gross profit amount being same for both, gross profit on

A

Selling price will always be less than related % based on cost

54
Q

Gross profit method is normally unacceptable for financial reporting purposes bc

A

It provides only an estimate

55
Q

GAAP permits gross profit method to determine

A

Ending inventory for interim reporting purposes, provided a company discloses the use of method

56
Q

Gross method relies on

A

Historical records

57
Q

Retail inventory method

A

Retailer uses formula to convert retail prices to cost

58
Q

Retail inventory method requires the retail to keep a record of

A
  1. Total cost and retail value of goods purchased
  2. The total cost and retail value of goods available for sale
  3. Sales for the period
59
Q

Different versions of retail inventory method and it includes

A

Convential method (lower of average cost or msrket) , cost method , LIFO retail method and dollar value LIFO

60
Q

Advantages of retail method is

A

Inventory balance can be approximated without physical count

61
Q

To avoid potential ovrrstament of inventory, what is to be taken?

A

Periodic inventory counts

62
Q

Retail inventory method is useful for any time of

A

Interim report bc the reports usually need a fairly quick and realiable measure of inventory

63
Q

Retail inventory is used for

A

Estimate losses from fire flood or type of causality

Acts as control device bc company will have to explain deviations from physical count st end of year

It expedites physical inventory count @ end of yr

64
Q

Markup

A

Additional markup of original retail price

65
Q

Markup cancellations

A

Decrease in price of merchandise that a retailer had marked up above the original retail price

66
Q

Markdowns

A

Decreases in original sale prices

67
Q

Markdown cancellations occur when

A

Markdowns are later offset by increases in the prices of goods that retailer had marked down

68
Q

Neither the markup cancellation nor markdown cancellation can exceed

A

Original Markup or markdown

69
Q

Conventional retail inventory method

A

Approximates lower of average cost or market

70
Q

To approximate the lower of cost or market we would consider markdowns a current loss and so it will

A

Not be include in calculating cost to retail ratio

71
Q

Special items relating to retail method

A

Freight costs: part of purchase cost

Purchase returns: ordinarily considered as reduction of price at both cost and retail

Purchase discounts and allowances: considered as reduction of cost of purchases

Transfer ins: from another department are reported same way as purchases from outside of company

Normal shortages: reduce retail column because no longer for sale

Abnormal shortages: deducted from both cost and retail columns and reported as special inventory amount or as a loss

Employee discounts: deducted from retail columns in same way as sales

72
Q

Use retail method of computing inventory for the following reasons:

A
  1. To permit computation of net income without physical count of inventory
  2. Control measure in determining inventory shortages
  3. Regulating quantities of merchandise on hand
  4. Insurance information
73
Q

One characteristic of retail inventory method is

A

That is has an averaging effect on varying rates of gross profit

74
Q

Inventories must be

A

Managed

75
Q

Inventory turnover measures

A

Number of times on average company sells the inventory during the period .

Measure sthe liquidity of inventory

76
Q

A variant of inventory turnover is

A

Average days to sell inventory

77
Q

LIFO results in

A

Better matching costs and revenues

78
Q

LIFO retail is made under two assumptions

A
  1. Stable prices

2. Fluctuating prices

79
Q

LIFO method is concerned only with additional layer or amount that should be subtracted from previous layer, beginning inventory should be

A

Excluded from cost to retail %

80
Q

Major assumption of LIFO retail method

A

Markup and markdowns apply only to goods purchases during the current period and not beginning inventory

81
Q

Dollar value LIFO retail method

A

If price level does change the company must eliminate price change so as to measure the teal increase in inventory not dollar increase

82
Q

Changing from conventional retail to LIFO

A

Conventional retail is a lower of cost or market approach and the company must restate beginning inventory to a cost basis when changing from conventional retail to the LIFO method

ACCT 301 (12 decks)

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