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    Financial Tools Week 1B-20

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    Belen González Bouza
    The document discusses key concepts related to inventory, including: 1) How inventory is reported on the balance sheet and income statement and how understating or overstating inventory affects financial statements. 2) The different inventory costing methods (FIFO, LIFO, weighted average) and how their application impacts financial results. 3) How inventory errors can occur and how they reverse themselves over time. 4) Metrics like inventory turnover and days' sales in inventory that companies use to evaluate inventory management effectiveness.

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    Financial Tools Week 1B-20

    Uploaded by

    Belen González Bouza
    60 views4 pages
    The document discusses key concepts related to inventory, including: 1) How inventory is reported on the balance sheet and income statement and how understating or overstating inventory affects financial statements. 2) The different inventory costing methods (FIFO, LIFO, weighted average) and how their application impacts financial results. 3) How inventory errors can occur and how they reverse themselves over time. 4) Metrics like inventory turnover and days' sales in inventory that companies use to evaluate inventory management effectiveness.

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    The document discusses key concepts related to inventory, including: 1) How inventory is reported on the balance sheet and income statement and how understating or overstating inventory affects financial statements. 2) The different inventory costing methods (FIFO, LIFO, weighted average) and how their application impacts financial results. 3) How inventory errors can occur and how they reverse themselves over time. 4) Metrics like inventory turnover and days' sales in inventory that companies use to evaluate inventory management effectiveness.

    Copyright:

    © All Rights Reserved
    Download as DOCX, PDF, TXT or read online from Scribd
    Download as docx, pdf, or txt
    60 views4 pages

    Financial Tools Week 1B-20

    Uploaded by

    Belen González Bouza
    The document discusses key concepts related to inventory, including: 1) How inventory is reported on the balance sheet and income statement and how understating or overstating inventory affects financial statements. 2) The different inventory costing methods (FIFO, LIFO, weighted average) and how their application impacts financial results. 3) How inventory errors can occur and how they reverse themselves over time. 4) Metrics like inventory turnover and days' sales in inventory that companies use to evaluate inventory management effectiveness.

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    You are on page 1of 4

    WEEK 1  Chapter 6 (Pages 298 – 321)

    Balance sheet: inventory, current assets, total assets, and SE retained earnings

    ending inventory understated  everything understated.

    ending inventory overstated  everything overstated.

    Income statement: COGS, Gross profit, and net income

    beginning inventory under  everything under

    beginning inventory over  everything over

    ending inventory under  everything under except COGS over

    ending inventory over  everything over except COGS under

    Comparing Inventory Costing Methods

    when $ increase  FIFO > LIFO in gross profit, net income, and income taxes; (LIFO=less expenses)

    when $ decrease  LIFO>FIFO in gross profit, net income, and income taxes
    Control of Inventory
    1. Safeguarding Inventory from damage or theft
    When the inventory is ordered.
    The following documents are often used for inventory control:
    - Purchase order
    - Receiving report
    - Vendor’s invoice
    2. Reporting Inventory in the financial statements.
    • Count of inventory
    • Cost of the inventory is assigned for reporting in the financial statements.

    Inventory Costing Methods

    • FIFO: First-In, First-Out Method

    • LIFO: Last-In, First-Out Method

    • Weighted Average Cost Method  Each time a purchase is made. $ unit cost = total price/total
    units

    Inventory Costing Methods Under a Periodic Inventory System

    • Only revenue is recorded each time a sale is made.

    • No entry is made at the time of the sale to record the cost of the goods sold.

    • physical inventory is taken to determine the cost of the inventory and the cost of the goods
    sold.

    • cost flow assumption must be made when identical units are acquired at different unit costs
    during a period.

    Reporting Inventory in the Financial Statements

    • Cost is the primary basis for valuing and reporting inventories in the financial statements.
    However, inventory may be valued at other than cost in the following cases:

    - The cost of replacing items in inventory is below the recorded cost.

    - The inventory cannot be sold at normal prices due to imperfections, style changes,
    spoilage, damage, obsolescence, or other causes.

    Inventory on the Balance Sheet

    • Inventory is in the current assets section

    • In addition to this amount, the following are reported on the balance sheet or in the
    accompanying notes:

    - The method of determining the cost of the inventory (FIFO, LIFO, or weighted
    average)

    - The method of valuing the inventory (cost or the lower of cost or market)
    Effect of Inventory Errors on the Financial Statements

    - reasons: miscounted, costs incorrectly assigned, inventory in transit was incorrectly included
    or excluded from inventory, and consigned inventory was incorrectly included or excluded from
    the inventory.

    • Inventory errors often arise from merchandise that is in transit at year-end.

    • Shipping terms determine when the title to merchandise passes.

    - When goods are purchased or sold FOB shipping point, title passes to the buyer when
    the goods are shipped.

    - When the terms are FOB destination, title passes to the buyer when the goods are
    received.

    • Inventory errors often arise from consigned inventory. Manufacturers sometimes ship
    merchandise to retailers who act as the manufacturer’s selling agent.

    • manufacturer=consignor, retains title until the goods are sold.

    • merchandise is shipped on consignment to the retailer=consignee.

    • Any unsold merchandise at year-end is part of the manufacturer’s (consignor’s) inventory,


    even though the merchandise is in the hands of the retailer (consignee).

    • Inventory errors reverse themselves within two years on the income statement and the
    balance sheet.

    • The effects are summarized as follows:

    Analysis for Decision Making: Inventory Turnover and Number of Days’ Sales in Inventory

    • A retail business should keep enough inventory on hand to meet its customers’ needs and a
    failure to do so may result in lost sales.

    • Too much inventory ties up funds that could be used to improve operations.

    • Excess inventory increases expenses (storage and property taxes)

    • Excess inventory increases the risk of losses due to price decreases, damage, or changes in
    customer tastes.

    • The number of days’ sales in inventory measures the length of time it takes to acquire, sell,
    and replace the inventory.

    Analysis for Decision Making: Inventory Turnover


    • measures the relationship between COGS and the inventory carried during the period.

    • It measures the number of times inventory is turned into sold goods during the year.

    • the larger the inventory turnover, the more efficient and effective the company is in managing
    inventory.

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