E 8-22 Concepts; terminology

Listed below are several terms and phrases associated with inventory measurement.
Pair each item from List A (by letter) with the item from List B that is most
appropriately associated with it.

List A List B
1 Perpetual Inventory a. Legal title passes when goods are delivered to common
System carrier.
2 Periodic Inventory System b. Goods are transferred to another company but title remains
with transferor.
3 FOB Shipping Point c. Purchase discounts not taken are included in inventory cost.

4 Gross Method d. If LIFO is used for taxes, it must be used for financial
reporting.
5 Net Method e. Items sold are those acquired first.
6 Cost Index f. Items sold are those acquired last
7 FOB Destination g. Purchase discounts not taken are considered interest
expense.
8 FIFO h. Used to convert ending inventory at year-end cost to base
year cost.
9 LIFO i. Continuously records changes in inventory.
10 Consignment j. Items sold come from a mixture of goods acquired during the
period.
11 Average Cost k. Legal title passes when goods arrive at location.

12 IRS Conformity Rule l. Adjusts inventory at the end of the period.

 PROBLEMS

P 8 – 1.Various inventory transactions; Journal Entries

The James Company began the month of October with inventory of $15,000. The
following inventory transactions occurred during the month:
a. The company purchased merchandise on account for $22,000 on October
12,2003. Terms of the purchase were 2/10, n/30. James uses the net
method to record purchases. The merchandise was shipped FOB
Shipping Point and freight charges of $500 were paid in cash.
b. On October 18 the company returned merchandise costing $3,000. The
return reduced the amount owed to the supplier. The merchandise
returned came from beginning inventory, not from the October 12
purchase.
c. On October 31, James paid for the merchandise purchased on October
12.
d. During October merchandise costing $18,000 was sold on account for
$28,000.
e. It was determined that inventory on hand at the end of October cost
$16,060.
Required:
1. Assuming that the James Company uses a periodic inventory system,
prepare journal entries for the above transactions including the
adjusting entry at the end of October to record cost of goods sold.
2. Assuming that the James Company uses a perpetual inventory
system, prepare journal entries for the above transactions.

P 8 – 2. Items to be included in Inventory

The following inventory transactions took place near December 31, 2003, the end of
the Rasul Company’s fiscal year-end:

1. On December 27, 2003, merchandise costing $2,000 was shipped to the

Myers Company on consignment. The shipment arrived at Myers’ location on
December 29, but none of the merchandise was sold by the end of the year.
The merchandise was not included in the 2003 ending inventory.
2. On January 5, 2004, merchandise costing $8,000 was received from a
supplier and recorded as a purchase on the date and not included in the 2003
ending inventory. The invoice revealed that the shipment was made FOB
Shipping Point on December 28, 2003.
3. On December 29, 2003, the company shipped merchandise costing $12,000
to a customer FOB Destination. The goods, which arrived at the customer’s
location on January 4, 2004, were not included in Rasul’s 2003 ending
inventory. The sale was recorded in 2003.
4. Merchandise costing $4,000 was received on December 28, 2003, on
consignment from the Aborn Company. A purchase was not recorded and the
merchandise was not included in 2003 ending inventory.
5. Merchandise costing $6,000 was received and recorded as a purchase on
January 8, 2004. The invoice revealed that the merchandise was shipped
from the supplier on December 28, 2003, FOB Destination. The merchandise
was not included in 2003 ending inventory.
Required:
State whether the company correctly accounted for each of the above
transactions. Give the reason for your answer.
P 8 – 3. Costs included in Inventory

The Reagan Corporation is a wholesale distributor of truck replacement parts. Initial

amounts taken from Reagan’s records are as follows:

Inventory at December 31 (based on physical count

of goods in Reagan’s warehouse on December 3) $1,250,000
Accounts payable at December 31:

Vendor Terms Amount

Baker Company 2%, 10 days, net 30 $ 265,000
Charlie Company Net 30 210,000
Dolly Company Net 30 300,000
Eagler Company Net 30 225,000
Full Company Net 30 -
Greg Company Net 30 -
$1,000,000
Sales for the year $9,000,000

Additional Information:
1. Parts held by Reagan on consignment from Charlie, amounting to
$155,000 were included in the physical count of goods in Reagan’s
warehouse and in accounts payable at December 31.
2. Parts totaling $22,000, which were purchased from Full and paid for in
December, were sold in the last week of the year and appropriately
recorded as sales of $28,000. The parts were included in the physical
count of goods in Reagan’s warehouse on December 31 because the
parts were on the loading dock waiting to be picked up by customers.
3. Parts in transit on December 31 to customers, shipped FOB shipping
point on December 28, amounted to $34,000. The customers received the
parts on January 6 of the following year. Sales of $40,000 to the
customers for the parts were recorded by Reagan on January 2.
4. Retailers were holding goods on consignment from Reagan, which had a
cost of $210,000 and a retail value of $250,000.
5. Goods were in transit from Greg to Reagan on December 31. The cost of
goods was $25,000, and they were shipped FOB shipping point on
December 29.
6. A freight bill in the amount of $2,000 specifically relating to merchandise
purchased in December, all of which was still in the inventory at
December 31, was received on January 3. The freight bill was not
included in either the inventory or in accounts payable at December 31.
7. All the purchases from Baker occurred during the last seven days of the
year. These items have been recorded in accounts payable and
accounted for in the physical inventory at cost before discount. Reagan’s
policy is to pay invoices in time to take advantage of all discounts, adjust
inventory accordingly, and record accounts payable net of discounts.
Required:
Prepare a schedule of adjustments to the initial amounts using the format
shown below. Show the effect, if any, of each of the transactions
separately and if the transactions would have no effect on the amount
shown, state none.
 Accounts
Inventory Payable Sales
Initial Amounts $1,250,000 $1,000,000 $9,000,000
Adjustments - increase(decrease):
1
2
3
4
5
6
7
Total Adjustments
Adjusted amounts

P 8 – 4. Various Inventory transactions; determining inventory and cost

of goods

The Johnson Corporation began 2003 with inventory of 10,000 units of its only
product. The units cost $8 each. The company uses a periodic inventory system and
the LIFO cost method. The following transaction occurred during 2003.
a. Purchased 50,000 additional units at a cost of $10 per unit. Terms of the
purchases were 2/10, n/30, and 60% of the purchases were paid for within
the 10-day discount period. The company uses the gross method to record
purchase discounts. The merchandise was purchased FOB shipping point
and freight charges of $.50 per unit were paid by Johnson.
b. 1,000 units purchased during the year were returned to suppliers for credit.
Johnson was also given credit for the freight charges of $.50 per unit it had
paid on the original purchase. The units were defective and were returned two
days after they were received.
c. Sales for the year totaled 45,000 units at $18 per unit.
d. On December 28,2003, Johnson purchased 5,000 additional units at $10
each. The goods were shipped FOB destination and arrived at Johnson’s
warehouse on January 4, 2004.
e. 14,000 units were on hand at the end of 2003.
Required:
1. Determine ending inventory and cost of goods sold for 2003.
2. Assuming that operating expenses other than those indicated in the
above transactions amounted to $150,000, determine income before
income taxes for 2003.
P 8 – 5. Various inventory costing methods

The Ferris Company began 2003 with 6,000 units of its principal product. The cost of
each unit is $8. Merchandise transactions for the month of January 2003 are as
follows:

Purchases
Date of
Purchase Units Unit Cost Total Cost
Jan 10 5,000 9 45,000
Jan 18 6,000 10 60,000
Totals 11,000 105,000

* includes purchase price and cost of

freight

Sale
Date of Sale Units
Jan 5 3,000
Jan 12 2,000
Jan 20 4,000
Total 9,000

8,000 units were on hand at the end of the month.

Required:
Calculate January’s ending inventory and cost of goods sold for the month
using each of the following alternatives:
1. FIFO, periodic system
2. LIFO, periodic system
3. LIFO, perpetual system
4. Average cost, periodic system
5. Average cost, perpetual system

P 8 – 6. Various inventory costing methods; gross profit ratio

The Topanga Group began operations early in 2003. Inventory purchase information
for the quarter ended March 31, 2003, for Topanga’s only product is provided below.
The unit costs include the cost of freight. The company uses a periodic inventory
system.

Date of
Purchase Units Unit Cost Total Cost
Jan 7 5,000 4.00 20,000
Feb 16 12,000 4.50 54,000
Mar 22 17,000 5.00 85,000
34,000 159,000
Sales for the quarter, all at $7.00 per unit, totaled 20,000 units leaving 14,000 units
on hand at the end of the quarter.

Required:
1. Calculate the Topanga’s gross profit ratio for the first quarter using:
a. FIFO
b. LIFO
c. Average Cost
2. Comment on the relative effect of each of the three inventory method on the
gross profit ratio.

P 8 – 7. Various inventory costing methods

Carlson Auto Dealers Inc. sells a handmade automobile as its only product.
Each automobile is identical; however, they can be distinguished by their
unique ID number. At the beginning of 2003,Carlson had three cars in
inventory, as follow:

CAR ID Cost ($)

203 60, 000
207 60, 000
210 63, 000

During 2003, each of the three autos sold for $90,000. Additional purchases
(listed in chronological order) and sales for the year were as follows:

CAR ID COST ($) Selling Price

211 63,000 90,000
212 63,000 93,000
213 64,500 not sold
214 66,000 96,000
215 69,000 100,500
216 70,500 not sold
217 72,000 105,000
218 72,300 106,500
219 75,000 not sold

Required:
1. Compute 2003 ending inventory and cost of goods sold assuming the
company uses the specific identification inventory method.
2. Compute ending inventory and cost of goods sold assuming FIFO and a
periodic inventory system.
3. Compute ending inventory and cost of goods sold assuming LIFO and a
periodic inventory system.
4. Computer ending inventory and cost of goods sold assuming the average
cost method and a periodic inventory system.
P 8 – 8. Supplemental LIFO disclosures

Caterpillar, Inc. is one of the world’s largest manufacturers of construction, mining,

agricultural, and forestry machinery. The following disclosure note is included in the
company’s 2000 financial statements:

D. Inventories ($ in millions)
Inventories are stated at the lower of cost or market. Cost is principally
determined using the last-in, first-cut, (LIFO) method. The value of
inventories on the LIFO basis represented about 80% of total inventories
at December 31, 2000, 1999, and 85% at December 31, 1998.
If the FIFO (first-in, first-out) method had been in use, inventories
would have been $2,065, $2,000, and $1,978 higher than reported at
December 31,2000, 1999, and 1998, respectively.

If inventories valued at LIFO cost had been valued at FIFO cost, net income
would have increased by approximately $46.0 million and $15.6 million, respectively,
for the year ended December 31, 2000 and 1999.

Required:
1. Approximate the company’s effective income tax rate for the year ended
December 31, 2000.
2. Why might the information contained in the disclosure note be useful to a
financial analyst?
3. Using the income tax rate calculated in 1, how much higher (lower) would
retained earnings have been at the end of 2000 if Caterpillar had used the
FIFO inventory method for all of its inventory?

P 8 – 9. LIFO Liquidation

The Taylor Corporation has used a periodic inventory system and the LIFO cost
method since its inception in 2003. The company began 2003 with the following
inventory layers (listed in chronological order of acquisition):

10,000 units @ $ 15 $ 150,000

15,000 units @ $ 20 300,000
Beginning Inventory $ 450,000

During 2003, 30,000 units were purchased for $25 per unit. Due to
unexpected demand for the company’s product, 2003 sales totaled 40,000 units at
various prices, leaving 15,000 units in ending inventory.

Required:
1. Calculate cost of goods sold for 2003.
2. Determine the amount of LIFO liquidation profit that the company must report
in a disclosure note to its 2003 financial statements. Assume an income tax
rate of 40%.
3. If the company decided to purchase an additional 10,000 units at $25 per unit
at the end of the year, how much income tax currently payable would be
saved?
P 8 – 10 Dollar-value LIFO

On January 1, 2003, the Taylor Company adopted the dollar-value LIFO method. The
inventory value for its one inventory pool on this date was $400,000. Inventory data
for 2003 through 2005 is as follows:

Ending
Inventory at
Date Year-End Costs Cost Index
12/31/03 441,000 1.05
12/31/04 487,200 1.12
12/31/05 510,000 1.20
Required:
Calculate Taylor’s Ending Inventory for 2003, 2004, and 2005.

P 8 – 11 Dollar-Value LIFO

The Kingston Company uses the dollar-value LIFO method of computing inventory.
An external price index is used to convert ending inventory to base year. The
company began operations on January 1, 2003, with an inventory of $150,000. Year-
end inventories at year-end costs and cost indexes for its one inventory pool were as
follows:

Year Ended Inventory at Cost Index

December 31 Year-End Costs (Relative to Base Year)
2003 200,000 1.08
2004 245,700 1.17
2005 235,980 1.14
2006 228,800 1.10
Required:
Compute inventory amounts at the end of each year.