7/7/2023

INTRODUCTION
TOPIC 1 : Accounting as a Form of Communication
TOPIC 2 : Financial Statements and the Annual Report
TOPIC 3 : Processing Accounting Information
TOPIC 4 : Income Measurement and Accrual Accounting
TOPIC 5 : Inventories and Cost of Goods Sold
TOPIC 6 : Receivables and Investments
TOPIC 7 : Operating Assets: Property, Plant and Equipment, and
Intangibles
TOPIC 8 : Liabilities
TOPIC 9 : Stockholders’ Equity

07/07/2023 183

DIRECT [RAW] MATERIALS DIRECT LABOR MANUFACTURING OVERHEAD

The The amounts paid to All other costs that are related
ingredients workers to to the manufacturing process
used in making manufacture the but cannot be directly matched
a product product to specific units of output
Fabric
The hourly wage
paid to an assembly
Flour
line worker Salary of the accountant

07/07/2023 184

RAW MATERIALS WORK-IN PROGRESS [PROCESS] FINISHED GOODS

The inventory of a The cost of unfinished A manufacturer’s
manufacturer before the products in a inventory that is
addition of any direct labor manufacturing complete and ready
or manufacturing company. for sale
overhead

07/07/2023 185
 7/7/2023

“sales less deductions for discounts and merchandise

returned (returns and allowances)“

Sales Returns and Credit Terms and Sales

Allowances Discounts
Contra-revenue account used to A contra-revenue account used to
record refunds to customers and record discounts given to customers
reductions of their accounts for early payment of their accounts

Returns Allowances
Special notation is normally used to
Allowing the customer For spoiled or damaged indicate a firm’s policy for granting
to return merchandise merchandise, a costumer may credit.
within a stipulated be given either a cash refund or
period of time a credit amount applied to its n/30
future purchases
07/07/2023 186

“the outflow of an asset (inventory) from its sale (sales revenue as

the inflow), in the form of cash and/or accounts receivable“

It’s not necessarily equal to the cost of purchases of merchandise during the period.

Cost of goods available for sale Beginning inventory plus cost of goods purchased

07/07/2023 187

07/07/2023 188
 7/7/2023

PERPETUAL PERIODIC
A system in which the Inventory account is A system in which the
increased at the time of each purchase and Inventory account is updated
decreased at the time of each sale. only at the end of the period.

IN SUMMARY
by looking at the Inventory The ending inventory by counting
account at the end of the period is determined the merchandise
Is risen Record keeping Is reduced

Is high Level of control Is low

Small rotation of Usually used by Big rotation of

inventories companies with inventories
Is high Cost Is low
07/07/2023 189

PERPETUAL
Assume that SBA Inc. made on July 7 one sale on account of 200 tables at $100 each with
a unit cost of $75. On August 18 and September 22 SBA Inc. made sales of respectively
100 and 150 tables at the same price and with the same cost. SBA Inc. applies the
perpetual system of inventory.
July 7 Accounts Receivable 20,000
Sales 20,000
Sales of 200 tables
July 7 Cost of goods sold 15,000
Inventory – Finished goods 15,000
Inventory move out of 200 tables

Aug. 18 Accounts Receivable 10,000

Sales 10,000
Sales of 100 tables
Aug. 18 Cost of goods sold 7,500
Inventory – Finished goods 7,500
Inventory move out of 100 tables
Sep. 22 Accounts Receivable 15,000
Sales 15,000
Sales of 150 tables
Sep. 22 Cost of goods sold 11,250
Inventory – Finished goods 11,250
Inventory move out of 100 tables
07/07/2023 190

PERIODIC
Assume that SBA Inc. made on July 7 one sale on account of 200 tables at $100 each
with a unit cost of $75. On August 18 and September 22 SBA Inc. made sales of
respectively 100 and 150 tables at the same price and with the same cost.
SBA Inc. applies the periodic system of inventory every quarter.
July 7 Accounts Receivable 20,000
Sales 20,000
Sales of 200 tables

Aug. 18 Accounts Receivable 10,000

Sales 10,000
Sales of 100 tables

Sep. 22 Accounts Receivable 15,000

Sales 15,000
Sales of 150 tables

Sep. 30 Cost of goods sold 33,750

Inventory – Finished goods 33,750
Inventory move out of 450 tables

07/07/2023 191
 7/7/2023

‘’ Purchases is the temporary account used in a periodic inventory

system to record acquisitions of merchandise. ‘’

It is not an asset account. It is included in the income statement as an

integral part of the calculation of cost of goods sold

SBA Inc. purchased on July 2 a total of 500 tables at a cost of $75 with credit terms of
1/10, n/30.

July 2 Purchases (Expense) 37,500

Accounts payable 37,500
Purchase of 500 tables

07/07/2023 192

(1) (2) (3)

Purchase Returns Purchase Transportation
and Allowances Discounts -In

A contra-purchases account used A contra-purchases Terms of shipment

in a periodic inventory system account used to record take on additional
when a refund is received from a reductions in purchase significance at the
supplier or a reduction is given in price for early payment to end of an accounting
the balance owed to a supplier. a supplier. period

07/07/2023 193

(1)
Purchase Returns
and Allowances

SBA Inc. returns on July 5 10% of its purchase made on July 2 (500 tables at a cost of $75
with credit terms of 1/10, n/30.)

July 5 Accounts payable 3,750

Purchases returns and allowances 3,750
Return of 50 tables

07/07/2023 194
 7/7/2023

(2)
Purchase Discounts

SBA Inc. pays its account on July 5 for its purchase made on July 2 (500 tables at a cost of
$75 with credit terms of 1/10, n/30.)

July 5 Accounts payable 37,500

Cash 37,125
Purchases Discounts 375
Payment on account

07/07/2023 195

(3)
Transportation-In
(shipping terms)

Terms that require the seller to pay for the Terms that require the buyer to
cost of shipping the merchandise to the buyer. pay for the shipping costs

FOB INCOTERMS INternational COmmercial TERMS

a series of standardized commercial terms to
define the rights and duties of buyers and
sellers in international trade (13 incoterms)
07/07/2023 196

(3)
Transportation-In
(shipping terms)
SBA Inc. pays on July 12 an invoice for $500 from DBA Railroad on the shipping of its
purchase made on July 2 (500 tables at a cost of $75 with credit terms of 1/10, n/30.) The
terms of shipment are FOB shipping point.
July 12 Transportation-in 500
Cash 500
Payment on account

If the shipping terms is FOB destination point, the transportation-in fees are included
the price of purchase

SBA Inc. purchased on July 2 a total of 500 tables at a cost of $73 plus a $2 per unit for
shipping (FOB destination point)
July 2 Purchases (Expense) 37,500
Accounts payable 37,500
Purchase of 500 tables

07/07/2023 197
 7/7/2023

GROSS PROFIT RATIO GROSS PROFIT NET SALES

RELATIVE VALUE

“ It is an important measure of profitability. It indicates a

company’s ability to cover operating expenses and earn a profit“

for every $1 of sales, this company has a gross profit of 40 cents.

It has 40 cents to cover its operating costs and to earn a profit.

07/07/2023 198

INCOME STATEMENT - WALMART

Required : Compute and interpret the gross profit ratio for Walmart

07/07/2023 199

2015 2014 2013 %15-14 %14-13

NET SALES 482,229 473,076 465,604 2% 2%
COST OF GOODS SOLD 365,086 358,069 352,297 2% 2%

GROSS PROFIT 117,143 115,007 113,307 2% 2%

GROSS PROFIT RATIO 24% 24% 24% 0% 0%

07/07/2023 200
 7/7/2023

2015 2014 2013 %15-14 %14-13

NET SALES 482,229 437,076 465,604 10% -6%
COST OF GOODS SOLD 365,086 358,069 352,297 2% 2%

GROSS PROFIT 117,143 79 007,00 113,307 48% -30%

GROSS PROFIT RATIO 24% 18% 24% 33% -25%

for every $1 of sales, Walmart has a gross profit of 24 cents in 2015

and 2013. In 2014, it was only 18 cents. This is mainly because in
2014, the sales of Walmart have decreased with 6% compared to
2013.

07/07/2023 201

All assets should be recorded at cost (the price paid, or consideration

given to acquire an asset).

the sum of the applicable expenditures and charges directly or

indirectly incurred in bringing an article to its existing condition and
location

Certain costs may also be included in the ‘‘price paid’’

FREIGHT COST COST OF INSURANCE COST OF STORING INVENTORY TAXES PAID

Difficult to allocate because usually they include different items

of inventory
07/07/2023 202

Company must use one of a number of methods available in

assigning costs to ending inventory and to cost of goods sold.

Because usually companies buy the same items in different

periods of time and/or from different suppliers

Because usually companies cannot specifically identify the units

sold (is it items purchased in transaction #1 or #2 or #876?)

the Cost (COGS) is not constant

Choose among the weighted average, FIFO, and LIFO methods

07/07/2023 203
 7/7/2023

IDENTIFIABLE GOODS UNIDENTIFIABLE GOODS

Less common situation Most common situation

Specific Identification method Costing methods

07/07/2023 204

Specific Identification method

07/07/2023 205

IDENTIFIABLE GOODS UNIDENTIFIABLE GOODS

Less common situation Most common situation

Specific Identification method Costing methods

ASSUMPTIONS

WILL I TAKE INTO ACCOUNT WILL I BE TAKING OUT THE WILL I BE TAKING OUT THE
THE AVERAGE VALUE? FIRST ITEM PURCHASED? LAST ITEM PURCHASED?

07/07/2023 206
 7/7/2023

SBA Inc. purchases merchandise twice during the first year of business.
The dates, number of units purchased, and costs are as follows:

• February 4 : 200 units purchased at $1.00 per unit = $200

• October 13 : 200 units purchased at $1.50 per unit = $300

SBA Inc. sells 200 units during the first year. Individual sales of the units
take place relatively evenly throughout the year.

The question is, which 200 units did the company sell—the $1.00
units, the $1.50 units, or some combination of each?

The answer determines not only the value assigned to the 200 units of
ending inventory but also the amount allocated to the cost of goods sold
for the 200 units sold.
07/07/2023 207

1. 200 units sold at $1.00 each = $200 cost of goods sold and
200 units on hand at $1.50 each = $300 ending inventory (FIFO)

2. 200 units sold at $1.50 each = $300 cost of goods sold and
200 units on hand at $1.00 each = $200 ending inventory (LIFO)

3. 200 units sold at $1.25 each = $250 cost of goods sold and
200 units on hand at $1.25 each = $250 ending inventory (WA)

07/07/2023 208

SBA Inc. use wood (raw material) for its production line #2.
Its beginning inventory on January 1st, 2020, is 100 units purchased at $320.
SBA Inc. has purchased during 2020 the following items:
• March 1st : 250units at $341
• July 1st : 200units at $343
• October 1st : 100units at $346
• December 1st : 50units at $347
SBA Inc. has sold during 2020 the following items:
• April 1 : 230units
• September 1 : 120units
• November 1 : 100units
The ending inventory of the company is (in terms of quantity) :
EI (wood) = 100 + 250 + 200 + 100 + 50 – 230 – 120 – 100 =250units

Required: Use the three costing methods for the valuation of inventory
07/07/2023 209
 7/7/2023

Weighted average cost (After each entry)

Flows Inventory
Date
Quantity Unit. Price Value Quantity Unit. Price Value
Jan. 1st 100 320 32,000 100 320 32,000
Mar. 1st 250 341 85,250 350 335 117,250
Apr. 1st -230 335 -77,050 120 335 40,200
Jul. 1st 200 343 68,600 320 340 108,800
Sept. 1st -120 340 -40,800 200 340 68,000
Oct. 1st 100 346 34,600 300 342 102,600
Nov. 1st -100 342 -34,200 200 342 68,400
Dec. 1st 50 347 17,350 250 343 85,750

07/07/2023 210

FIFO
Flows Inventory
Date
Quantity Unit. Price Value Quantity Unit. Price Value
Jan. 1st 100 320 32,000 100 320 32 000
100 32 000
Mar. 1st 250 341 85 250 100 320 32 000
250 341 85 250
350 117 250
Apr. 1st -100 320 -32 000
-130 341 -44 330 120 341 40 920
-230 -76 330 120 40 920
Jul. 1st 200 343 68 600 120 341 40 920
200 343 68 600
320 109 520
Sept. 1st -120 341 -40 920 200 343 68 600
200 68 600
Oct. 1st 100 346 34 600 200 343 68 600
100 346 34 600
300 103 200
Nov. 1st -100 343 -34 300 100 343 34 300
100 346 34 600
200 68 900
Dec. 1st 50 347 17 350 100 343 34 300
100 346 34 600
50 347 17 350
250 86 250

LIFO
Jan. 1st 100 320 32 000 100 320 32 000
100 32 000
Mar. 1st 250 341 85 250 100 320 32 000
250 341 85 250
350 117 250
Apr. 1st -230 341 -78 430 100 320 32 000
20 341 6 820
-230 -78 430 120 38 820
Jul. 1st 200 343 68 600 100 320 32 000
20 341 6 820
200 343 68 600
320 107 420
Sept. 1st -120 320 -38 400 100 320 32 000
20 341 6 820
80 343 27 440
200 66 260
Oct. 1st 100 346 34 600 100 320 32 000
20 341 6 820
80 343 27 440
100 346 34 600
300 100 860
Nov. 1st -100 320 -32 000 100 320 32 000
20 341 6 820
80 343 27 440
200 66 260
Dec. 1st 50 347 17 350 100 320 32 000
20 341 6 820
80 343 27 440
50 347 17 350
250 83 610
 7/7/2023

07/07/2023 213

Unperishable goods LIFO

Perishable goods FIFO

07/07/2023 214

INCREASE NET INCOME DECREASE NET INCOME

The goal is higher market-cap The goal is lower income taxes

Decrease Expenses (Lower COGS) Increase Expenses (Higher COGS)

Prices go UP Prices go DOWN Prices go UP Prices go DOWN

Purchase #1 : $100 Purchase #1 : $700 Purchase #1 : $100 Purchase #1 : $700
Purchase #2 : $300 Purchase #2 : $500 Purchase #2 : $300 Purchase #2 : $500
Purchase #3 : $500 Purchase #3 : $300 Purchase #3 : $500 Purchase #3 : $300
Purchase #4 : $700 Purchase #4 : $100 Purchase #4 : $700 Purchase #4 : $100

GOGS GOGS GOGS GOGS

FIFO LIFO LIFO FIFO

07/07/2023 215
 7/7/2023

A conservative inventory valuation approach that is an attempt to

anticipate declines in the value of inventory before its actual sale
Example
An electronics firm has in its inventories an item that has become obsolete. It is
likely that the retailer will have to sell the merchandise for less than the normal
selling price because the market value of the inventory may be less than its cost
to the company.

At the end of each accounting period, the original cost, as determined using one of
the costing methods such as FIFO, is compared with the market price of the
inventory. If market is less than cost, the inventory is written down to the lower
amount.

07/07/2023 216

COST COST PRICEMARKET PRICE

MARKET
(FIFO, LIFO or WA) (FAIR-VALUE)

Example
For its obsolete item, this electronics firm has evaluated its cost with the FIFO
method at $104,000 while its current market value is $79,000 on July 5.

Loss on Decline in Value of

July 5 25,000
Inventory
Inventory 25,000
Decline in value of inventory

07/07/2023 217

the amount of money a business must currently spend to replace an

essential asset like a real estate property, an investment security, an
inventory or another item, with one of the same or higher value
Example
A company pays $75 for a pair of running shoes and normally sells them for $100.
The gross profit is 25% [(100-75)/100]. Assume that this style of running shoes
becomes less popular. The retailer finds that because of the style change, the cost
to replace the pair of running shoes (in its inventories already valuated at a cost of
$75 each) is now only $60, and the selling price will become $80 in order to
maintain its normal gross profit 25% [(80-60)/80].

What if this company doesn’t apply the replacement cost?

(suppose that it has 10 pairs in its inventories in 2014 and apply the
new selling price in 2015)
07/07/2023 218
 7/7/2023

07/07/2023 219

A company’s ability to sell its inventory quickly can be measured by computing the
inventory turnover ratio. How often a company sells its inventory during a period is
found by dividing cost of goods sold by average inventory

A measure of the number of times inventory is sold during the period.

THE INVENTORY COST OF AVERAGE

TURNOVER RATIO GOODS SOLD INVENTORY
IF IT’S EQUAL TO 2, IT
MEANS THAT A
COMPANY SOLD TWICE INCOME STATEMENT BALANCE SHEET
OF ITS INVENTORIES the end of the two most
recent years
07/07/2023 220

INCOME STATEMENT - WALMART

BALANCE SHEET- WALMART

Required : Compute and interpret the inventory turnover ratio for Walmart
07/07/2023 221
 7/7/2023

2015 2014 2013

COST OF GOODS SOLD 365,086 358,069 352,297
INVENTORIES YEAR 1 44,858 43,803 40,714
INVENTORIES YEAR 2 45,141 44,858 43,803

AVERAGE INVENTORY 44,999.5 44,330.50 42,258.50

INVENTORY TURNOVER RATIO 8.11 8.08 8.34

Walmart turned over its inventory an average of 8.11 times in 2015,

8.08 in 2014 and 8.34 in 2013. It’s approximately the same
inventory turnover of about 8 times.

07/07/2023 222

How many days it took for the company to sell its inventory

NUMBER OF DAYS’ PERIOD OF THE INVENTORY

SALES IN INVENTORY TIME (360) TURNOVER RATIO

07/07/2023 223

2015 2014 2013

COST OF GOODS SOLD 365,086 358,069 352,297
INVENTORIES YEAR 1 44,858 43,803 40,714
INVENTORIES YEAR 2 45,141 44,858 43,803

AVERAGE INVENTORY 44,999.5 44,330.5 42,258.5

INVENTORY TURNOVER RATIO 8.11 8.08 8.34

NUMBER OF DAYS’ SALES IN INVENTORY 44 45 43

It took Walmart 44 days, or about one month and a half, on average

to sell its inventory in 2015, 45 in 2014 and 43 in 2013.

07/07/2023 224
 7/7/2023

07/07/2023 225

FIFO
Flows Inventory
Days
Quantity Unit. Price Value Quantity Unit. Price Value
Jan. 1st 100 320 32,000 100 320 32 000
100 32 000
Jan. 2nd 250 341 85 250 100 320 32 000
250 341 85 250
350 117 250
Jan.3rd -100 320 -32 000
-130 341 -44 330 120 341 40 920
-230 -76 330 120 40 920
Jan. 4th 200 343 68 600 120 341 40 920
200 343 68 600
320 109 520
Jan. 5th -120 341 -40 920 200 343 68 600
200 68 600
Jan. 6th 100 346 34 600 200 343 68 600
100 346 34 600
300 103 200
Jan. 7th -100 343 -34 300 100 343 34 300
100 346 34 600
200 68 900
Jan. 8th 50 347 17 350 100 343 34 300
100 346 34 600
50 347 17 350
07/07/2023 250 86 250
226

LIFO
Flows Inventory
Date
Quantity Unit. Price Value Quantity Unit. Price Value
Jan. 1st 100 320 32,000 100 320 32 000
100 32 000
Mar. 1st 50 347 17,350 100 320 32 000
50 347 17,350
150 49,350
Apr. 1st -50 347 -17,350
-50 320 -16,000 50 320 16,000
-100 -33,350 50 16,000
Jul. 1st 200 343 68 600 50 320 16,000
200 343 68 600
250 84,800
Sept. 1st -200 343 -68 600
-30 320 -9,600 20 320 6,400
-230 -78,200 20 6,400
Oct. 1st 100 346 34,600 20 320 6,400
100 346 34 600
120 41,000
 7/7/2023

07/07/2023 228

Loss on Decline in Value of

Dec. 31 7,000
Inventory
Inventory 7,000
Decline in value of inventory

07/07/2023 229

07/07/2023 230
 7/7/2023

07/07/2023 231

07/07/2023 232

07/07/2023 233