Problem 1a: Company Uses A Periodic Inventory System

Problem 1a Company Uses A Periodic Inventory System At The End Of The

Analyze a company’s inventory situation at the year-end, considering a periodic inventory system, and calculate the ending inventory and cost of goods sold (COGS) using FIFO, LIFO, and average cost methods. Additionally, interpret the effects of various transactions on inventory valuation. This requires understanding inventory accounting methods, adjusting inventory for additional transactions, and preparing journal entries for purchases and sales under FIFO within a perpetual system framework.

Paper For Above instruction

Proper inventory management and accounting are critical components for accurate financial reporting and business decision-making. The selection and application of inventory valuation methods such as FIFO (First-In, First-Out), LIFO (Last-In, First-Out), and average cost significantly influence reported earnings, taxable income, and inventory valuation. This paper discusses the calculation of ending inventory and cost of goods sold (COGS) under different methods, analyzes adjustments for specific transactions at year-end, and explores the implications of these adjustments on financial statements.

Inventory Valuation under FIFO, LIFO, and Average Cost Methods

Inventory valuation methods serve to determine the cost assigned to goods sold and ending inventory items. FIFO assumes that the oldest inventory items are sold first, resulting in higher ending inventory during periods of rising prices and lower COGS. Conversely, LIFO assumes the most recent purchases are sold first, leading to higher COGS and lower ending inventory during inflationary periods. The average cost method assigns a weighted average cost to each unit, smoothing out price fluctuations over the period.

Problem 1: Year-End Inventory Analysis

The company's inventory data at year-end shows 10,000 units valued at $4 each. Throughout the year, the purchases were made as follows: in April for 5,000 units at $6, and in June for 3,000 units at $9. The goal is to compute the ending inventory and COGS under FIFO, LIFO, and average cost methods.

The total units available for sale equal 10,000 units, with the following costs:

  • Beginning inventory: 10,000 units at $4
  • April purchase: 5,000 units at $6
  • June purchase: 3,000 units at $9

However, since the problem specifies the ending inventory quantity as 10,000 units, we need to determine how the units are allocated across the purchases based on each inventory method.

Calculations under FIFO

FIFO assumes the oldest inventory is sold first. Therefore, the ending inventory comprises the most recent purchases:

  • Remaining units: 10,000 units
  • Units from June purchase (most recent): 3,000 units at $9
  • Units from April purchase: 5,000 units at $6
  • Remaining 2,000 units are from beginning inventory at $4

Thus, the ending inventory valued at FIFO is:

  • 3,000 units at $9 = $27,000
  • 5,000 units at $6 = $30,000
  • 2,000 units at $4 = $8,000

Total ending inventory (FIFO): $65,000. The COGS is computed by subtracting the ending inventory from the cost of goods available for sale.

Calculations under LIFO

LIFO assumes the most recent purchases are sold first. The remaining inventory consists of the oldest units:

  • Remaining units (for ending inventory): 2,000 units at $4 from beginning inventory, 5,000 units at $6 from April purchase, and 3,000 units at $6 from April purchase are sold first, leaving the oldest units in inventory.

The ending inventory under LIFO consists of: 10,000 units at the oldest prices, which are the beginning inventory at $4 per unit, and some units from April at $6 as needed.

Calculations under Average Cost

The average cost per unit is calculated by dividing total cost of goods available for sale by total units available:

Total cost: (10,000 units x $4) + (5,000 units x $6) + (3,000 units x $9) = $40,000 + $30,000 + $27,000 = $97,000

Total units: 10,000 + 5,000 + 3,000 = 18,000 units

Average cost per unit = $97,000 / 18,000 ≈ $5.39

Ending inventory value: 10,000 units x $5.39 ≈ $53,900

COGS = Cost of goods available for sale – ending inventory = $97,000 – $53,900 = $43,100

Problem 2: FIFO Inventory System and Journal Entries

The company uses FIFO in a perpetual system for January. The initial inventory is 100 units at $1.50 each. Purchases and sales occur on January 4 and January 18, respectively.

The purchase on January 4 is 110 units at $1.10, and the sale on January 18 involves 18 units at $2.20 per unit, with an additional purchase on January 28 for 170 units at $1.60, and a sale at $2.40 per unit.

Calculation of Cost of Goods Available for Sale

  • Beginning inventory: 100 units at $1.50 = $150
  • January 4 purchase: 110 units at $1.10 = $121

Total units available: 210 units, total cost: $271

Ending Inventory and COGS

- On January 18, a sale of 18 units at $2.20 each involves FIFO, so using the earliest inventory:

  • First 100 units at $1.50: 18 units sold, COGS: 18 x $1.50 = $27
  • Remaining inventory after sale: 82 units at $1.50, 110 units at $1.10

- The journal entries for January 4 and 18 are:

  • January 4 Purchase: Debit Inventory $121; Credit Cash $121
  • January 18 Sale: Debit Accounts Receivable $39.6 (18 x $2.20); Credit Sales Revenue $39.6; Debit COGS $27; Credit Inventory $27

Problem 3: Adjusting Year-End Inventory

The physical inventory on December 31 totals $40,000. Adjustments are required for specific transactions and events:

  • (a) Goods costing $600 are being used on a trial basis and should be excluded from inventory as the company does not own them anymore.
  • (b) Goods sold for $2,650, with an inventory cost of $1,300, but not yet delivered; since ownership transfers upon shipment, these goods should be included in inventory.
  • (c) Goods valued at $4,550 from a supplier FOB shipping point are in transit and should be included in inventory upon arrival, as ownership passes at shipment point.
  • (d) Goods shipped FOB destination worth $600 are in transit and should not be included as ownership transfers upon delivery, which will occur next year.

Applying these adjustments, the revised inventory involves adding the FOB shipping point goods and goods in transit, and excluding the trial goods. The net adjustment increases inventory by $4,550 + $1,300 = $5,850 and subtracts $600 for trial goods, resulting in a final adjusted inventory of $45,250.

Conclusion

Accurate inventory valuation under different methods requires careful attention to the nature of transactions, ownership rights, and shipping terms. FIFO, LIFO, and average cost methods each impact the financial statements differently, especially in periods of fluctuating prices. Adjustments for goods in transit, consignment, and usage are essential to present a true and fair view of the company’s financial position.

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