FINANCIAL ACCOUNTINGPRESENTATION

PREPARED BY: UMESH TIBREWAL

ACCOUNTING FORINVENTORIES

DEFINITION OF INVENTORIES(AS-2)

Inventories are assets held:1. For sale in the ordinary course of business2. In the process of production for such sale3. In the form of materials or supplies to be

consumed in the production process or in the rendering of services

Types of InventoryInventory comes in many

shapes and sizes such as:◦ Raw materials – purchased

items or extracted materials transformed into components or products

◦ Components – parts or subassemblies used in final product

◦ Work-in-process – items in process throughout the plant

◦ Finished goods – products sold to customers

◦ Distribution inventory – finished goods in the distribution system

Accounting Principles Related to Inventory

ConsistencyCompanies should use same inventory

method from period to period Disclosure

Companies should disclose inventory method used

ConservatismCompanies should “write down” inventory if

market price falls below cost

COST OF INVENTORYAll expenditures incurred to

bring the item to its existing condition and

location

Net cost of purchasesPurchase price

+ Freight-in

- Purchase returns

- Purchase Discounts

= Net cost of purchases

- Purchase allowances

Transportation costs

Unsuitable goodsreturned to seller

Reduction in amount owed

For early payment

Net SalesSales revenue

- Sales returns

- Sales Discounts

= Net Sales

- Sales allowances

Unsuitable goodsreturned to company

Reduction in amount owed

For early payment

• Invoice cost• Shipping• Cash discounts• Purchases allowances

Cost of Inventory includes

HOW TO ACCOUNT FOR INVENTORY PURCHASES, SALES AND REPORTING?

Applying either the periodic inventory system or the perpetual inventory system and select a cost flow assumption to determine the value of inventories.

Both inventory systems require a physical count of inventory at the end of a period to determine the units which can be included in the inventory count.

Inventory Systems - Periodic

Compute inventory balance at end of each accounting period

Compute cost of goods sold at the end of accounting period

Inventory Systems - Perpetual

Compute cost of goods sold at each sale

Compute new inventory balance at each sale

Perpetual vs. Periodic Inventory System

Perpetual system Periodic System At purchase Inventory xxx Purchases xxxA/P xxx A/P xxx

At sale: CGS xxx None Inventory xxxA/R xxx A/R xxxSales xxx Sales xxx

13

Cost Flow Assumptions

Only with specific identification do we attempt to match the actual movement of product through the business with the movement of costs through the accounting system

With other inventory cost methods, we make an assumption of the movement of costs through the accounting system.

Cost Flow Assumptions(Contd.)

This "flow" of costs through the system need not match the movement of product through the business

COST FLOW ASSUMPTIONS

FIRST-IN, FIRST-OUT(FIFO) Earliest goods assumed to be first

units sold Inventory made up of latest goods

acquired

Purchased goods

Purchased goods

Sold goods

Sold goods

Cost Flow AssumptionsCost Flow Assumptions

First-in, First-out (FIFO) Method

Step 1: Assign the cost of the beginning inventory to cost of goods sold.

1stin

First-in, First-out (FIFO) Method ALLOCATE TO Ending Cost of

Units Cost Inventory Goods Sold

1/1 500 $10 $5,000

1/20 300 $11

4/8 400 $12

9/5 200 $13

12/12 100 $14

First-in, First-out (FIFO) Method Step 2: Continue to work forward until you

assign the total number of units sold during the period to cost of goods sold. Allocate the remaining costs to ending inventory.

2nd3rd etc.

First-in, First-out (FIFO) Method

ALLOCATE TO Ending Cost of

Units Cost Inventory Goods Sold

1/1 500 $10 $5,000

1/20 300 $11 3,300

4/8 300 / 100 $12 $3,600 1,200

9/5 200 $13 2,600

12/12 100 $14 1,400

TOTALS $7,600 $9,500

COST FLOW ASSUMPTIONS

LAST-IN, FIRST-OUT(LIFO) Newest goods assumed to be first

units sold Inventory made up of earliest goods

acquired

Purchased goods

Purchased goodsSold

goods

Sold goods

Cost Flow AssumptionsCost Flow Assumptions

Last-in, First-out (LIFO) Method

Step 1: Assign the cost of the last units purchased to cost of goods sold.

1stin

Last-in, First-out (LIFO) Method ALLOCATE TO

Ending Cost ofUnits Cost Inventory Goods

Sold

1/1 500 $10

1/20 300 $11

4/8 400 $12

9/5 200 $13

12/12 100 $14 $1,400

1stin

Step 2: Work backwards until you assign the total number of units sold during the period to cost of goods sold (allocate the remaining costs to ending inventory).

Last-in, First-out (LIFO) Method

Last-in, First-out (LIFO) Method

ALLOCATE TO Ending Cost of

Units Cost Inventory Goods Sold

1/1 500 $10 $5,000

1/20 100 / 200 $11 1,100 $ 2,200

4/8 400 $12 4,800

9/5 200 $13 2,600

12/12 100 $14 1,400

TOTALS $6,100 $11,000

COST FLOW ASSUMPTIONS

AVERAGE COST Cost of items sold is the weighted

average of costs incurred Inventory is the weighted average of

costs incurred

Purchased goods

Purchased goods

Sold goods

Sold goods

Cost Flow AssumptionsCost Flow Assumptions

Weighted Average Method

Step 1: Calculate the cost of goods available for sale.

Weighted Average Method

Date purchased Units Cost Total cost Beg. inventory 500 $10 $ 5,000 1/20 300 11 3,300 4/8 400 12 4,800 9/5 200 13 2,600 12/12 100 14 1,400 Cost of goods available for sale 1,500 $17,100

Weighted Average Method

Step 2: Divide the cost of goods availablefor sale by the total units todetermine the weighted averagecost per unit.

Weighted Average Method

Cost of Goods Available for SaleUnits Available for Sale

$17,100 1,500 = $11.40/unit

Weighted Average Method

Step 3: Calculate ending inventory and cost of goods sold by multiplying the weighted average cost per unit by the number of units in ending inventory and the number of units sold.

×Avg.Cost

No. ofUnits

Weighted Average Method

ALLOCATE TO Ending Cost of Inventory Goods

SoldUnits on hand 600 Units sold 900Weighted average cost × $11.40 $ 11.40Total cost of goods available of $17,100 allocated: $6,840 $10,260

Comparison of Costing Methods

Cost of GoodsSold

Ending Inventory

11,000

6,840

7,600

10,260

9,500

17,100

17,000

17,100

WeightedAverage

FIFO

LIFO

Goods Available for Sale

6,100

Inventory Costing MethodsInventory Costing Methods

40%

30%

20%

10%

0%

43%

34%

19%

4%

Fifo Lifo Average Other

THANK YOU