Accounting Chapter 6 Homework Why Not What The Footnotes Say

6-14

Vocabulary Quiz

Name _____________________________________ Date _______________

Chapter 6

1. An inventory costing method that assumes that the costs of the

latest goods purchased are the first to be allocated to cost of

goods sold.

2. Measure of the average number of days inventory is held;

calculated as 365 divided by inventory turnover ratio.

3. Goods held for sale by one party although ownership of the goods

is retained by another party.

4. The current cost to replace an item of inventory.

5. A basis whereby inventory is stated at the lower of either cost or

market (current replacement cost).

6. Freight terms indicating that the goods are placed free on board at

the seller’s place of business, and the buyer pays the freight cost;

goods belong to the buyer while in transit.

7. Freight terms indicating that the goods are placed free on board at

the buyer’s place of business, and the seller pays the freight cost;

goods belong to the seller while in transit.

8. Inventory system in which companies manufacture or purchase

goods just in time for use.

9. An inventory costing method that uses the weighted-average unit

cost to allocate the cost of goods available for sale to ending

inventory and cost of goods sold.

10. For a company using LIFO, the difference between inventory using

LIFO and inventory using FIFO.

6-15

Solutions to Vocabulary Quiz

Chapter 6

1. Last-in, first-out (LIFO) method

6-16

Multiple Choice Quiz Name _______________ Date ______________

Chapter 6

1. In order to be classified as merchandise inventory, merchandise must be:

a. owned by the company.

b. in a form ready for sale to customers in the ordinary course of business.

c. shipped FOB destination.

d. both owned by the company and in a form ready for sale to customers in

the ordinary course of business.

2. General Motors would classify automobiles on the assembly line in various

stages of completion as:

a. raw materials.

b. work in process.

c. finished goods.

d. none of these answer choices are correct.

3. When purchases of merchandise are recorded in the Purchases account rather

than the Inventory account the inventory system being used is the

a. FIFO system.

b. LIFO system.

c. periodic system.

d. perpetual system.

4. To determine cost of goods sold under a periodic inventory system, all of the

following are necessary except:

a. total cash register receipts for the period.

b. record purchases of merchandise

c. determine the cost of goods purchased

d. determine the cost of goods on hand at the beginning and end of the

accounting period.

5. In some lines of business, it is customary to hold the goods of other parties and

try to sell the goods for them for a fee. These goods are called:

a. goods in transit.

b. work in process.

c. merchandise inventory.

d. consigned goods.

6. When legal title of the goods remains with the seller until the goods reach the

buyer the terms are said to be:

a. consigned goods.

b. FOB destination.

c. FOB shipping point.

d. none of these answer choices are correct.

6-17

7. The three assumed cost flow methods are:

a. specific identification, FIFO, and LIFO.

b. FIFO, LIFO, and average-cost.

c. perpetual, periodic, and specific identification.

d. none of these answer choices are correct.

8. Which of the following statements are not true regarding LIFO:

a. Assumes the latest goods purchased are the first to be sold.

b. Seldom coincides with the actual physical flow of inventory.

c. Ending inventory is based on the price of the most recent units

purchased.

d. Ending inventory obtained by taking the unit cost of the earliest goods

available for sale and working forward until all units of inventory have

been costed.

9 In a period of increasing prices, the inventory system that will yield the highest

net income is:

a. specific identification.

b. FIFO.

c. LIFO.

d. average-cost.

10. Under lower-of-cost-or-market (LCM), market is defined as:

a. historical cost.

b. selling price.

c. current replacement cost.

d. none of the above.

6-18

Solutions to Multiple Choice Quiz

Chapter 6

1. d

6-19

Exercise 1 – Financial Analysis Activity

Chapter 6

The Caterpillar Corporation, mentioned in the opening vignette of the chapter, uses the

last-in, first-out (LIFO) method of valuing inventories. In the notes to the financial

statements (found at http://www.cat.com, Investor Information, SEC Filings and

finally click on the latest Form 10K) it is stated that if Caterpillar had used first-in, first-

out (FIFO), inventories would have been significantly higher.

1. Explain why inventories would be higher had the FIFO valuation method been

used. Please be thorough. You may use hypothetical figures to illustrate your

point.

2. What would be the effect on net income of using FIFO rather than LIFO to value

inventory?

3. Can you think of a scenario in which Caterpillar would want to use FIFO rather

than LIFO in valuing inventories?

Solutions:

1. First-in, first-out (FIFO) assumes that the first units purchased or

manufactured are the first units to be sold. Therefore, the last units

6-20

Exercise 2 – Financial Analysis Activity

Chapter 6

The notes to financial statements of Whole Foods Market, Inc. (located at

http://www.wholefoodsmarket.com, Investor Relations, Annual Reports, Form 10K)

state that inventories are stated at the lower-of-cost-or-market. In addition, inventory

cost is determined by the last-in, first-out method.

1. Why would Whole Foods need to state inventories at the lower–of-cost-or–

market?

2. Your friend contends that Whole Foods must use the FIFO method in valuing

inventories because the grocery inventory first purchased would be the items

they would need to sell first. Do you agree with your friend’s reasoning? Why or

why not?

3. What do the footnotes say about LIFO Reserve?

Solutions:

1. Whole Foods uses lower-of-cost-or-market in valuing inventories because

inventories are all perishable and have a relatively short shelf life. The

6-21

Exercise 3 – Ethics Activity

Chapter 6

Assume you are a staff accountant at Merchandise and Such, where sales for the year

have far exceeded expectations. On December 29, the controller asked you to tell the

shipping clerk to delay shipment of a very large order of merchandise until the

beginning of the next fiscal year.

1. Why does the controller want to delay the shipment?

2. What are your responsibilities concerning the shipment of merchandise? And

what action would you take?

Solutions:

1. The controller wants to delay shipment so that the revenue from this sale

will be shifted to the next period.

6-22

Exercise 4 – Financial Statement Analysis Activity

Chapter 6

After the physical inventory count, you realized that inventory in one small warehouse

had not been counted. The company uses the periodic inventory method and you are

responsible for the inventory figures.

1. What effect will the omission of inventory have on the income statement? Be

specific in your answer.

2. What effect will the omission of inventory have on the balance sheet? Be

specific in your answer.

Solutions:

1. When the periodic inventory method is used, cost of goods sold is found

by adding purchases to beginning inventory to come up with cost of

6-23

Exercise 5 – Financial Statement Analysis Activity

Chapter 6

Shoplifting is one of the most frequent non-violent crimes facing America and the rest

of the world. The problem is so prevalent that most retailers increase prices as much as

10 percent to cover losses from shoplifting.

If a company uses the periodic inventory system, where will the cost of shoplifting show

up on the income statement?

Solutions:

The ending inventory will be lower than it should be because of the theft. This

causes the cost of goods sold to be higher than the cost of goods sold directly

6-24

Exercise 6 – World Wide Web Research and Financial Statement Analysis

Activity

Chapter 6

The inventory turnover ratio indicates how many times inventory turns over within the

year. Compute the inventory turnover ratio for three firms in vastly different industries.

Use your school library or go to the internet to find the most recent annual report for

Edy’s, Nike, and General Motors.

If you research the internet, go to:

Edy’s – http://www.edys.com

Nike – http://www.nike.com;

GM – http://www.gm.com.

1. Compute the inventory ratio and days in inventory for each company for the

most recent year.

2. Compare and contrast the ratios of the three companies.

3. Are the ratios consistent with what you expected?

6-25

Exercise 7 – Accounting Career Activity

Chapter 6

Private or corporate accounting is the largest area of accounting, offering unlimited job

opportunities. A private accountant, unlike a public accountant, works for one employer

such as Toyota, Coca-Cola, or IBM. A number of accounting majors go into private

accounting immediately after graduation. Others go into private accounting after being

involved with pubic accounting. Regardless of whether one is a CPA or not, corporate

accountants should pursue the Certified Managerial Accounting (CMA) certificate

administered by the Institute of Management Accountants.

To learn more about the Institute of Management Accountant and the CMA certification

go to http://www.imanet.org.

1. What is the IMA and how many members does it have?

2. What are the benefits of becoming a student member of the IMA?

3. What is a CMA? How does one become a CMA?

4. What is a CFM? What are the requirements for certification?

6-26

Exercise 8 – Financial Statement Analysis Activity

Chapter 6

Wendy’s is the third largest fast-food restaurant chain in the world. Visit Wendy’s at

http://www.wendys.com, (go to Investors and click on SEC Filings – Wendy’s to gain

access to its financial statements and related notes in the Proxy section).

1. How does Wendy’s value its inventory?

2. Are you surprised Wendy’s uses lower–of-cost-or-market? Why or why not?

3. What types of items are included in Wendy’s inventory count?