P9-11. Evaluating inventory cost-flow changes (LO 4)
Requirement 1:
“Better matching of revenues and expenses . . .”
Matching does not refer to the physical flow of goods, but rather
to cost-flow assumptions.
“Better correlation of accounting and financial information . . .”
“Better presentation of inventories . . .”
LIFO provides more information because of the requirement to
disclose LIFO reserve.
Under specific identification, financial statement users will not
Requirement 2:
“Conform all inventories . . . to the same method of valuation.”
This would simplify the analyst’s task.
“Reflects more recent costs in the balance sheet . . .”
If input costs are changing, the average cost method will reflect
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“Better matching of current costs with current revenues . . .”
If the company expects to reduce its inventory levels, LIFO
P9-12. Assessing managerial opportunism (LO 6, 9)
Requirement 1:
JKW Corporation
Projected Income Statement
For the Year Ended December 31, 2017
Projected
Income
Requirement 2:
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target
P9-13. Computing LIFO and ratio effects (LO 1, 3, 5, and 6)
Requirement 1:
Cost of goods manufactured:
Finished goods
= $65,638
Finished goods inventory turnover:
Cost of goods sold
Average finished goods inventory
=
$65,374
0.5($2,684 $2,420)
= 25.62
365
25.62
= 14.25 days
Work-in-process inventory turnover:
Cost of goods manufactured
Average work–in – process inventory
=
$65,638
0.5($40,285 $39,921)
= 1.64
365
1.64
= 223 days
Comments:
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Yes. We know that Bacardi ages its rum for 1–3 years, so we would
expect work-in-process turnover to be slow. (In fact, 223 days is
Requirement 2:
FIFO income (estimate):
FIFO net income = LIFO net income + Change in LIFO reserve
(1 – tax rate*)
* Tax rate = 17% per information given in the question.
Comments:
The substantial drop in the LIFO reserve indicates that the price of
molasses (the major component of raw materials inventory) has
Requirement 3:
Inventory turnover ratio (in days):
LIFO cost of goods sold Pre-tax liquidation
Avg. LIFO inventory Avg. LIFO reserve
=
$65,374 – $1,400* /(1 – 0.17)
0.5($53,812 $20,800 $51,892 $700)
$63,687
$63,602
= 1.001
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365
1.001
= 364.5 days
* Recall that liquidation caused a decrease in net income.
Comments:
This total turnover measure should reflect the entire conversion
process from purchase of raw materials through manufacture and
above is less than the 1- to 3-year aging schedule disclosed in
One possible reason for this apparent discrepancy is the equal
weight given to beginning and ending LIFO reserves in the
P9-14. Determining LIFO amounts—comprehensive (LO 5, 6, 7)
Requirement 1:
Year Cost of goods sold Ending inventory
2016
18,000 units x $25 =
$450,000
2,000 units x $25 =
$50 ,000
3,000 units x $20 =
$60 ,000
$110 ,000
2017
5,000 units x $30 =
$150,000
0
2,000 units x $25 =
$50,000
3,000 units x $20 =
$60,000
$260,000
Requirement 2:
Income statements 2015 2016 2017
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Pre-tax income 120,000 180,000 75,000
Requirement 3:
2015 Since the price changes only at the beginning of the year, there
is no LIFO reserve at the end of 2015.
Requirement 4:
2016 Purchases exceed sales; hence, there is no LIFO liquidation.
2017 Replacement cost of layers liquidated:
Effect of LIFO liquidation on net income
Requirement 5:
Inventory turnover for 2016
COGS/Average inventory
Inventory turnover for 2017
COGS/Average inventory
Requirement 6:
Adjusted inventory turnover
for 2016
Adjusted inventory turnover
for 2017
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COGS + effect of LIFO
liquidation on COGS
COGS + effect of LIFO
liquidation on COGS
Requirement 7:
Gross margin rate for 2016
($270,000/$720,000) = 37.5%
Gross margin rate for 2017
($140,000/$400,000) = 35%
Gross margin on a per-unit basis:
Requirement 8:
Estimated FIFO COGS = LIFO COGS + Beginning LIFO reserve –
Ending LIFO reserve
Requirement 9:
2015: 0
Requirement 10:
P9-15. Identifying FIFO holding gains (LO 5, 8)
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When inventory levels are constant (or nearly so), a good estimate
of realized holding gains included in FIFO Income is:
Net realizable value = Selling price – 8% sales commission.
P9-17. Computing inventory impairment (LO 10, 11)
1. Because Jake is using FIFO, U.S. GAAP defines market as net
realizable value (NRV). This is the same approach used in IAS 2:
“Inventories shall be measured at the lower of cost and net realisable
Item
Original
Cost
Net Realizable
Value (NRV)
Inventory
Value
Used
2. Cost of goods sold would be increased and inventory would be
decreased.
3. Inventory valuation is based on total inventory, which allows losses
on some items to be offset by gains on other items. In this case, we
use the total historical cost value of $1,126 because it is lower than
Item
Original
Cost
Net Realizable
Value (NRV)
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