Chapter Six
Challenge Exercise 1
Premier Bank and Trust is considering giving Bean Company a loan. Before doing so, they decide that further
discussions with Bean’s accountant may be desirable. One area of particular concern is the inventory account,
which has a year-end balance of $326,000. Discussions with the accountant reveal the following.
1. Bean received goods costing $49,000 on January 2 that were shipped FOB destination on December 29.
The shipment was a rush order that was supposed to arrive December 31. This purchase was included in the
ending inventory of $326,000.
2. Bean sold goods costing $41,000 to Cusa Company, FOB shipping point, on December 28 for $65,000.The
goods are not expected to arrive at Cusa until January 12.The goods were not included in the physical
inventory because they were not in the warehouse.
3. The physical count of the inventory did not include goods costing $89,000 that were shipped to Bean FOB
destination on December 27 and were still in transit at year–end.
4. Bean received goods costing $27,000 on January 2. The goods were shipped FOB shipping point on
December 26 by Noble Co. The goods were not included in the physical count.
5. Bean sold, for $55,000 goods costing $38,000 to Limerick Co., FOB destination, on December 30. The
goods were received at Limerick on January 8. They were not included in Bean’s physical inventory.
Instructions:
(a) Determine the correct inventory amount on December 31.
(b) What correcting entry would have to be made for item 4?
Challenge Exercise 1 – Solution
(a) Ending inventory—physical count …………………………………………………………….. $326,000
1. The goods did not arrive prior to year–end. The goods,
therefore, cannot be included in the inventory …………………………………….. (49,000)
3. No effect—title does not transfer to Bean until
goods are received …………………………………………………………………………. 0
5. Add to inventory: Title remains with Bean until
purchaser receives goods ………………………………………………………………… 38,000
Challenge Exercise 2
Flying Tomato sells a snowboard, WhiteOut, that is popular with snowboard enthusiasts. Presented below is
information relating to Flying Tomato’s purchases of WhiteOut snowboards during September. During the
same month, 121 WhiteOut snowboards were sold at $170 each. Flying Tomato uses a periodic inventory
system.
Date Explanation Units Unit Cost Total Cost
Sept. 1 Inventory 25 $ 100 $ 2,500
Sept. 12 Purchases 45 106 4,770
Sept. 19 Purchases 24 110 2,640
Sept. 26 Purchases 50 112 5,600
Totals 144 $ 15,510
Instructions:
(a) Compute the ending inventory at September 30 and cost of goods sold using the FIFO and LIFO methods.
Prove the amount allocated to cost of goods sold under each method.
(b) For both FIFO and LIFO, calculate the sum of ending inventory and cost of goods sold. What do you notice
about the answers you found for each method?
(c) What is gross profit under each method?
(d) Which method results in a larger amount reported for assets on the balance sheet? Which results in a
larger amount reported for stockholders’ equity on the balance sheet?
Challenge Exercise 2 – Solution
FIFO
Beginning inventory (25 X $100) ………………………………………………………………. $ 2,500
Purchases
Sept. 12 (45 X $106) ………………………………………………………………………. $4,770
Proof
Date
Units
Unit Cost
Total Cost
9/1
25
$ 100
$ 2,500
9/12
45
9/19
24
9/26
$12,934
LIFO
Cost of goods available for sale ……………………………………………………………………………….. $15,510
Proof
Date
Units
Unit Cost
Total Cost
9/26
50
$112
$ 5,600
9/19
24
9/12
45
9/1
$13,210
(b)
Challenge Exercise 2 – Solution (Continued)
(c) FIFO: Sales $20,570 (121 X $170) less $12,934 = $7,636
Challenge Exercise 3
Naughty Dog Disc Golf Shop uses the lower-of-cost-or-market basis for its inventory. The following data are
available at December 31.
Item Units Unit Cost Market
Baskets:
Innova 10 $190 $200
Discraft 20 175 160
Disc bags:
Lightning 15 20 16
Wham-O 14 30 28
Instructions:
(a) Determine the amount of the ending inventory by applying the lower–of-cost–or-market basis.
(b) When determining “lower of cost or market”, what is “market? Why is market defined in this way?
Challenge Exercise 3 – Solution
a)
Cost
Market
Lower
of Cost
or Market
Baskets
Innova
$1,900
$2,000
$1,900
Discraft
Disc bags
Total inventory
$6,120
$5,832
$5,732
b) Under the LCM basis, market is defined as current replacement cost, not selling price. For a
Challenge Exercise 4
Scaggs Hardware reported cost of goods sold as follows.
2013 2014
Beginning inventory $ 30,000 $ 40,000
Cost of goods purchased 170,000 195,000
Cost of goods available for sale 200,000 235,000
Ending inventory 40,000 45,000
Cost of goods sold $160,000 $190,000
Scaggs made two errors: (1) 2013 ending inventory was overstated $4,000, and (2) 2014 ending inventory was
understated $7,000.
Instructions:
a) Compute the correct cost of goods sold for each year.
b) What correcting entry would Scaggs make for error (2)?
Challenge Exercise 4 – Solution
(a) 2013 2014
Beginning inventory …………………………………………………………… $ 30,000 $ 36,000
a$40,000 – $4,000 = $36,000. b$45,000 + $7,000 = $52,000.