ppts to accompany accounting and bookkeeping principles and practice by aat david willis 2011...

PPTs to accompany Accounting and Bookkeeping Principles and Practice by AAT & David Willis 2011 McGraw-Hill Australia Pty Ltd

CHAPTER 12 Maintain inventory records

Learning outcomeExamining and working through different

methods of accounting for inventories

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Concepts1. The preparation of stock cards for:

• First in first out• Weighted average

2. Ledger accounts for both cost and selling prices3. A comparison of physical and perpetual inventory systems4. The Retail Inventory method

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KEY TERMS• Cost of goods sold• Cost price• First in first out (FIFO)• Inventories

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KEY TERMS cont.• Lower of cost and net realisable value• Retail inventory• Selling price • Standard costs• Weighted average costs

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Inventories‘Inventory’ is the term used for stock or goods bought and sold by a trading business• When acquired inventories are purchases• When sold they are sales• Those not yet sold are an asset, closing

inventories

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Lower of cost and net realisable value• Inventories are generally recorded at historical cost• But, where it is considered that the sale price will

fall below the cost price, the business can reduce the balance to reflect the lower value

For example:• Obsolete computers and parts• Where inventory deteriorates• Reduced demand for the product • Where there is excess supply in the market

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Physical inventory methodPrior to stocktake:• Need to ensure a clear cut-off point for sales and

purchases• Employees completing the stocktake to be properly

instructed• Obsolete stock isolatedProblems of annual stocktake:• Disruptive to a business• Short-term profit statements are difficult to prepare

during the year without a full stocktake• Little control over what stock should be there• Theft and waste may go undetected

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Perpetual inventory method• This is a continuous recording of all stock

movements in and out, and the balance on hand

• Unit costs are included, together with the value of the closing stock on hand

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Advantages and disadvantages of the perpetual inventory method

Advantages• Losses and surpluses are identified• Stock re-order points are easily seen• Fast- and slow-moving inventories are highlighted• Total of all stock cards is the total value of stock on

hand• Accurate and timely profit reports can be prepared

Disadvantages• A physical stocktake is still required• It can be costly to operate• It cannot be applied to all businesses

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Standard costsA predetermined cost is calculated for a product being manufactured. It is based on:• materials costs• labour rates • overhead expenses

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Inventory stock cardA stock card is maintained at cost price, for each different stock item.The stock card shows:•the stock item•where it is located•maximum and minimum stock levels•reorder points •details of stock movements in and out, together with the balance on hand

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First in first out method (FIFO)• The first units purchased are recorded as the first

ones sold irrespective of whether they are allocated from the store in the same order

• It is about the flow of costs not the flow of goods• The closing inventory value in the balance sheet

contains the latest prices paid for the goods

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Weighted average cost methodThis method shows:• average costs at the start• the average value of closing stock after each

purchase • the average value of closing stock after each sale

The average cost is calculated by dividing the total goods available for sale by the number of items on hand

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Summary of FIFO and average cost methods

Accounting for inventories using the perpetual inventory methodTwo of the acceptable methods: all items at cost price

AVERAGE COST( Number on hand divided into the total value to obtain unit cost)

FIRST IN FIRST OUT(The first units in are the first to be costed when stock is issued)

PERPETUAL INVENTORY STOCK CARD

INVENTORIES ACCOUNT

COST OF GOODS SOLD ACCOUNT

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To calculate gross profit or loss

COST OF GOODS SOLD ACCOUNT(COST PRICE) SALES

(SELLING PRICE)SALES RETURNS (SELLING PRICE)

TRADING ACCOUNT(GROSS PROFIT/LOSS)

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Ledger accountsThese ledger accounts are recorded at ‘cost price’:• Inventories account• Cost of goods sold account• There is no ‘Purchases account’ in inventory

accounting

These ledger accounts are recorded at ‘selling price’:• Sales • Sales returns

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Retail inventory methodThis method can be used where:• stock movements are large• there is a high turnover• stock can be grouped to the same percentage mark-up

where a standard mark-up for a group of products can be applied

Departmental stores and supermarkets are examples of where the retail inventory method can be applied.

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Features of the retail inventory method • Opening inventories and purchases converted to

‘selling price’• Alterations to selling prices as additional mark-ups• Markdowns for ‘specials’• An estimate of the closing stock values at ‘cost’ price

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