Answer-for-Chapter8-Inventories.doc

Chapter 8 InventoriesKEY TERMS bank reconciliation The analysis that details the items responsible for the difference between the cash balance reported in the bank statement and the balance of the cash account in the ledger. bank statement A summary of all transactions mailed to the depositor or made available online by the bank each month.cash Coins, currency (paper money), checks, money orders, and money on deposit that is available for unrestricted withdrawal from banks and other financial institutions. cash equivalents Highly liquid investments that are usually reported with cash on the balance sheet. cash short and over account An account which has recorded errors in cash sales or errors in making change causing the amount of actual cash on hand to differ from the beginning amount of cash plus the cash sales for day. compensating balance A requirement by some banks requiring depositors to maintain minimum cash balances in their bank accounts. elements of internal control The control environment, risk assessment, control activities, information and communication, and monitoring. employee fraud The intentional act of deceiving and employer for personal gain. internal controls The policies and procedures used to safeguard assets, ensure accurate business information, and ensure compliance with laws and regulations. petty cash fund A special cash fund to pay relatively small amounts. special-purpose fund A cash fund used for a special business need. voucher A special form for recording relevant data about a liability and details of its payment. voucher system A set of procedures for authorizing and recording liabilities and cash payments. KEY POINT1. Describe the effect of inventory errors on the financial statements.Any errors in reporting inventory based upon the physical inventory will misstate the ending inventory, current assets, total assets, and total stockholders equity (retained earnings) on the balance sheet. In addition, the cost of goods sold, gross profit, and net income will be misstated on the income statement. 2. Describe three inventory cost flow assumptions and how they impact the income statement and balance sheet.The three common cost flow assumptions used in business are the (1) first-in, first-out method, (2) last-in, first-out method, and (3) average cost method. Each method normally yields different amounts for the cost of merchandise sold and the ending merchandise inventory. Thus, the choice of a cost flow assumption directly affects the income statement and balance sheet. 3. Compare the use of the three inventory costing methods.The three inventory costing methods will normally yield different amounts for (1) the ending inventory, (2) the cost of the merchandise sold for the period, and (3) the gross profit (and net income) for the period. During periods of inflation, the fifo method yields the lowest amount for the cost of merchandise sold, the highest amount for gross profit (and net income), and the highest amount for the ending inventory. The lifo method yields the opposite results. During periods of deflation, the preceding effects are reversed. The average cost method yields results that are between those of fifo and lifo. 4. Estimate the cost of inventory, using the retail method and the gross profit method.In using the retail method to estimate inventory, the retail prices of all merchandise acquired are accumulated. The inventory at retail is determined by deducting sales for the period from the retail price of the goods that were available for sale during the period. The inventory at retail is then converted to cost on the basis of the ratio of cost to selling (retail) price for the merchandise available for sale. In using the gross profit method to estimate inventory, the estimated gross profit is deducted from the sales to determine the estimated cost of merchandise sold. This amount is then deducted from the cost of merchandise available for sale to determine the estimated ending inventory. EXERCISEFossil specializes in designer watcher and leather goods. Assume Fossil began June holding 10 wristwatches that cost $50 each. Fossil sells these watches for $100 each. During June, Fossil bought and sold inventory as follows:June 3 Sold 8 units for $100 each16 Purchased 10 units for $55 each23 Sold 8 units for $100 eachRequirements1. Prepare a perpetual inventory record for Fossil under:FIFO LIFO Average CostRound unit cost to the nearest cent and all other amounts to the nearest dollar.2. Journalize all of Fossils inventory transactions for June under all three costing methods.3. Show the computation of gross profit for each method.4. Which method maximizes net income? Which method minimizes income taxes?Answer:1. FIFOWristwatchesDatePurchasesCost of Goods soldInventory on HandQuantityUnitCostTotal Cost QuantityUnitCostTotalCostQuantityTotalCostTotalCostJune 110$50 $500 38$50 $400 2501001610$55 $550 2105055100550232650551003304552203016$830 4$220 LIFOWristwatchesDatePurchasesCost of Goods soldInventory on HandQuantityUnitCostTotal Cost QuantityUnitCostTotalCostQuantityTotalCostTotalCostJune 110$50 $500 38$50 $400 2501001610$55 $550 2105055100550238554402250551001103016$840 4$210 AVERAGE COSTWristwatchesDatePurchasesCost of Goods soldInventory on HandQuantityUnitCostTotal Cost QuantityUnitCostTotalCostQuantityTotalCostTotalCostJune 110$50.00 $500 38$50.00$400 250.001001610$55$5501254.1765023854.17433454.172173016$833 4$217 2. Journal EntriesFIFOLIFOAverageJune 3Accounts Receivable800800800 Sales Revenue8008008003Cost of Goods Sold400400400 Inventory40040040016Inventory550550550 Accounts Payable55055055023Accounts R