FINANCIAL ACCOUNTING AND REPORTING Page 1 of 4

COVID – 19 PROJECT FOR ACCOUNTANTS

INVENTORY ESTIMATION

A. Gross Profit Method – Based on the assumption that the gross profit applied by an entity to
its products remains approximately the same from period to period and therefore the
relationship between cost of goods sold and sales is constant. The formula is as follows:

Goods Available for Sale X

Less: Estimated cost of goods sold
Net sales* X
Less: Gross profit X X
Estimated ending inventory X
 The cost of goods sold can also be computed by simply multiplying the net sales value
by 1 minus the GP rate if the gross profit rate based on sales.

 Another approach is net sales divided by 1 plus the gross profit rate if the gross profit
rate is based on cost.

 However, the Net Sales in the formula shall ONLY be gross sales less “sales returns and
allowances” or “sales returns” if there is a separate sales allowance indicated. This is in
order ensure that the estimate of ending inventory is not overstated.

MULTIPLE CHOICE

1. Fatima Company’s accounting records indicated the following for 2020:

Inventory, January 1 4,000,000
Purchases 15,000,000
Sales 25,000,000
Sales returns and allowances 1,000,000
Sales discounts 500,000
A physical inventory taken on December 31, 2020 resulted in an ending inventory of
P3,900,000. The gross profit on sales remained constant at 40% in recent years. Fatima
suspects a new employee may have taken the inventory. Using the gross profit method,
what is the estimated loss on missing inventory at December 31, 2020?
a. 700,000
b. 600,000
c. 500,000
d. 1,000,000

2. On June 30, 2020, a fire at Farina Company’s only warehouse caused severe damage to its
inventory. Based on recent history, Farina has a gross profit of 25% on cost. The following
information is available from the records for the six months ended June 30, 2020:
Inventory – January 1 4,000,000
Net purchases 18,000,000
Net sales 20,000,000
A physical inventory disclosed undamaged goods with selling price of P1,000,000. On June
30, 2020, unsold goods on consignment costing P500,000 are in the hands of the
consignee. What is the estimated cost of inventory destroyed by fire?
a. 6,000,000
b. 4,500,000
c. 4,700,000
d. 5,700,000

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3. On October 15, 2020, a fire destroyed all the stock of equipment of Jasmine Company in its
rented stockroom. The records of the firm showed the following information:

Inventory, January 1 500,000

Sales, January 1, - October 15 3,840,000
Sales returns and allowance 40,000
Purchases, January 1 – October 15 3,560,000
Purchase returns and allowance 60,000
Cost of stock in display room, not destroyed 320,000

Summary of prior year sales:

2019 2018 2017

Sales 3,700,000 3,500,000 3,000,000
Gross profit 1,295,000 1,050,000 750,000

How much is the estimated cost of merchandise lost in the fire?

a. 1,400,000
b. 1,720,000
c. 1,530,000
d. 1,210,000

B. Retail Method – Employed by retailers dealing with numerous different items for sale with
varying markup percentages to keep track unit cost. The formula is as follows:

Goods available for sale at retail X

Less: Net sales X
Employee discounts X
Normal losses X X
Estimated ending inventory X
Multiplied by the cost ratio* %
Estimated ending inventory at cost X
 Conservative Cost Ratio = GAS at cost divided by GAS at retail before net markdown

 Average Cost Ratio = GAS at cost divided by GAS at retail (after net markdown)

 FIFO Cost Ratio = Purchases at cost divided by Purchases at retail after net markdown

 Net sales similar to the “gross profit method” of estimation is computed by ignoring the
sales discount and the sales allowance if it is separated from sales returns.

MULTIPLE CHOICE

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1. The records of Murray Retail Store report the following data for the month of January 2020:
Sales 12,000,000 Mark down 600,000
Sales allowance 100,000 Mark down cancelations 100,000
Sales returns 500,000 Freight on purchases 100,000
Employee discounts 200,000 Purchases at cost 8,950,000
Normal losses at retail 800,000 Purchase returns at cost 450,000
Initial markup on purchases 6,200,000 Purchase returns at retail 600,000
Additional mark up 500,000 Beginning inventory cost 600,000
Mark up cancelations 100,000 Beginning inventory at retail 800,000
Abnormal losses at cost 200,000 Abnormal losses at retail 250,000
1. What is the goods available for sale at cost?
a. 9,000,000
b. 9,250,000
c. 8,550,000
d. 8,750,000

2. What is the goods available for sale at retail?

a. 15,250,000
b. 17,450,000
c. 14,500,000
d. 15,000,000

3. What is the estimated ending inventory using the average retail inventory method?
a. 1,500,000
b. 1,450,000
c. 1,550,000
d. 1,660,000

4. What is the estimated cost of goods sold using the average retail inventory method?
a. 7,550,000
b. 7,450,000
c. 5,400,000
d. 7,500,000

2 The records of Jett Company showed the following for the current year:
Cost Retail
Beginning inventory 340,000 640,000
Purchases 4,500,000 7,300,000
Freight in 100,000
Purchase return 150,000 250,000
Purchase allowance 90,000
Departmental transfer in 100,000 160,000
Net markup 150,000
Net markdown 500,000
Sales 6,750,000
Sales allowance 50,000
Sales return 150,000
Employee discount 100,000
Normal Spoilage and breakage 200,000
What is the estimated ending inventory using the conventional retail method?
a. 360,000 c. 600,000
b. 384,000 d. 480,000
3. Grizzly Company uses the average cost retail method to estimate its inventory. Data
relating to the inventory at December 31, 2020 are:

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Cost Retail
Inventory, January 1 1,000,000 1,500,000
Purchases 5,300,000 7,000,000
Net markup 800,000
Net markdown 300,000
Sales 7,000,000
Estimated normal shoplifting losses 200,000
Estimated normal shrinkage and spoilage 300,000

What is Grizzly’s estimated cost of goods sold for 2020?

a. 5,250,000
b. 5,000,000
c. 4,900,000
d. 5,400,000

4. Hartley Company uses the retail method of inventory valuation. The following information is
available:

Cost Retail

Beginning inventory 1,250,000 2,000,000

Purchases 6,750,000 8,000,000
Net markup 1,500,000
Net markdown 500,000
Sales 7,700,000

1. What would be the estimated cost of the ending inventory using FIFO retail?
a. 2,475,000
b. 2,300,000
c. 2,545,000
d. 2,225,000

2. What would be the estimated cost of the ending inventory using LIFO retail?
a. 2,475,000
b. 2,300,000
c. 2,545,000
d. 2,225,000

-END OF HANDOUT-

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