Chapter 07 – Reporting and Interpreting Cost of Goods Sold and Inventory
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VI. Chapter Supplement A: LIFO Liquidations
A. LIFO Liquidations
inventory become part of cost of goods sold
2. LIFO liquidation – a sale of a lower-cost inventory item
from beginning LIFO inventory
3. When inventory costs are rising, these lower cost items in
1. When a LIFO company sells more inventory than it
purchases or manufactures, items from beginning
B. Financial Statement Effects of LIFO Liquidations
2. Tax law allows LIFO to be applied as if all purchases
and cost of goods sold were recorded
3. Thus, temporary LIFO liquidations can be eliminated by
purchasing additional inventory before yearend
1. In practice, LIFO liquidations and extra tax payments can
be avoided even if purchases of additional inventory take
VII. Chapter Supplement B: FIFO and LIFO Cost of Goods Sold under Periodic versus Perpetual
Inventory Systems
A. Overview
1. Calculations of FIFO cost of goods sold will always be
perpetual computation
B. FIFO (First-in, First-out)
2. Using a perpetual inventory calculation, we would
compute the cost of goods sold for each sale separately
using the oldest goods available at the time of each sale
1. Using a periodic inventory calculation, the oldest goods
available during the month would include the units in
C. LIFO (Last-in, First-out)
1. LIFO assumes that the newest goods are the first ones
sold
purchased during the period
3. Using a perpetual inventory calculation, we would
compute the cost of goods sold for each sale separately
using the newest goods available at the time of each sale
2. Using a periodic inventory calculation, the newest goods
Chapter 07 – Reporting and Interpreting Cost of Goods Sold and Inventory
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D. Why You Won’t See LIFO Perpetual Calculations in
Practice
1. The added tax savings from the periodic calculation
illustrated above is one of the two reasons you will rarely
if ever see LIFO perpetual calculations in practice in
VII. Chapter Supplement C: Additional Issues in Measuring Purchases
A. Purchase Returns and Allowances
Use Supplemental
Harley-Davidson returned to a supplier damaged harness
boots that cost $1,000
Enrichment Activity #3
dr Accounts payable (−L)
1,000
cr Inventory (–A)
B. Purchase Discounts
On January 17, Harley-Davidson bought goods that had a
$1,000 invoice price with terms 2/10, n/30
dr Inventory (+A)
1,000
cr Accounts payable (+L)
Assuming payment on January 26 within discount period
dr Accounts Payable (−L)
1,000
cr Inventory (–A )
cr Cash (–A)
Assuming, instead, paid after discount period
dr Accounts Payable (−L)
1,000
cr Cash (–A)
Chapter 07 – Reporting and Interpreting Cost of Goods Sold and Inventory
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Supplemental Enrichment Activities
Note: These activities would be suitable for individual or group activities.
1. Handout 7-1
Use Handout 7-1 for an in-class activity designed to review the calculation of costs using all four
2. Handout 7-2
Use Handout 7-2 for an in-class activity designed to review the application of the lower of cost or
3. Handout 7-3
Use Handout 7-3 for an in-class activity designed to review the preparation of journal entries for
Chapter 07 – Reporting and Interpreting Cost of Goods Sold and Inventory
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HANDOUT 7 – 1
INVENTORY COSTING METHODS
Quickie Grocery acquired the following five bottles of Corporate-Cola soft drink:
Jan. 2
Jan. 10
Jan. 12
Jan. 16
Jan. 25
$1.00
$2.00
$3.00
$4.00
$5.00
A January 31 inventory count revealed that two bottles remained on the shelf. How many bottles were
sold in January?
Specific Identification
The Quickie Grocery keeps track of each individual bottle. Suppose the Grocery knows that it sold the
bottles acquired on Jan. 2, 12, and 16.
Date
Jan. 2
Jan. 10
Jan. 12
Jan. 16
Jan. 25
Total
Cost
Inventory
What was the cost of goods sold for January?
First-in, First-out (FIFO)
Date
Jan. 2
Jan. 10
Jan. 12
Jan. 16
Jan. 25
Total
Cost
Inventory
What was the cost of goods sold for January?
Chapter 07 – Reporting and Interpreting Cost of Goods Sold and Inventory
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HANDOUT 7 – 1, CONTINUED
Last-in, First-out (LIFO)
Date
Jan. 2
Jan. 10
Jan. 12
Jan. 16
Jan. 25
Total
Inventory
What was the cost of goods sold for January?
Average Cost
Date
Jan. 2
Jan. 10
Jan. 12
Jan. 16
Jan. 25
What was the cost of goods sold for January?
Complete the following table:
Specific
Identification
FIFO
LIFO
Average Cost
Chapter 07 – Reporting and Interpreting Cost of Goods Sold and Inventory
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HANDOUT 7 – 1 SOLUTION
INVENTORY COSTING METHODS
Quickie Grocery acquired the following five bottles of Corporate-Cola soft drink:
Jan. 2
Jan. 10
Jan. 12
Jan. 16
Jan. 25
$1.00
$2.00
$3.00
$4.00
$5.00
A January 31 inventory count revealed that two bottles remained on the shelf.
How many bottles were sold in January?
Specific Identification
The Quickie Grocery keeps track of each individual bottle. Suppose the Grocery knows that it sold the
bottles acquired on Jan. 2, 12, and 16.
Date
Jan. 2
Jan. 10
Jan. 12
Jan. 16
Jan. 25
Cost
$1.00
$2.00
$3.00
$4.00
$5.00
$15.00
COGS
$1.00
$3.00
$4.00
$ 8.00
Inventory
$2.00
$5.00
$ 7.00
What was the cost of goods sold for January?
What was the value of inventory on January 31?
First-in, First-out (FIFO)
Date
Jan. 2
Jan. 10
Jan. 12
Jan. 16
Jan. 25
Cost
$1.00
$2.00
$3.00
$4.00
$5.00
$15.00
COGS
$1.00
$2.00
$3.00
$ 6.00
Inventory
$4.00
$5.00
$ 9.00
What was the cost of goods sold for January?
What was the value of inventory on January 31?
Chapter 07 – Reporting and Interpreting Cost of Goods Sold and Inventory
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HANDOUT 7 – 1 SOLUTION, CONTINUED
Last-in, First-out (LIFO)
Assume that the last bottles purchased were the first to be sold. First bottles are still here.
Date
Jan. 2
Jan. 10
Jan. 12
Jan. 16
Jan. 25
Cost
$1.00
$2.00
$3.00
$4.00
$5.00
$15.00
COGS
$3.00
$4.00
$5.00
$12.00
Inventory
$1.00
$2.00
$ 3.00
What was the cost of goods sold for January?
$12.00
What was the value of inventory on January 31?
Average Cost
Date
Jan. 2
Jan. 10
Jan. 12
Jan. 16
Jan. 25
Cost
$1.00
$2.00
$3.00
$4.00
$5.00
$15.00
What was the cost of goods sold for January?
What was the value of inventory on January 31?
Complete the following table:
Specific
Identification
FIFO
LIFO
Average Cost
Cost of Goods Sold
$8
$6
$12
$9
Inventory
$7
$9
$ 3
$6
Chapter 07 – Reporting and Interpreting Cost of Goods Sold and Inventory
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HANDOUT 7 – 2
LOWER OF COST OR NET REALIZABLE VALUE
Amanda Corporation is preparing its financial statements for the current year ending December 31.
Ending inventory information about the three major items stocked for regular sale follows:
Item
Quantity
Cost per
Item
Net Realizable
Value per Item
AA
100
$ 30
$ 26
200
100
104
Then, prepare the journal entry to record the write-down, if any.
Date
Accounts
Debit
Credit
Chapter 07 – Reporting and Interpreting Cost of Goods Sold and Inventory
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HANDOUT 7 – 2 SOLUTION
LOWER OF COST OR NET REALIZABLE VALUE
Amanda Corporation is preparing its financial statements for the current year ending December 31.
Ending inventory information about the three major items stocked for regular sale follows:
Item
Quantity
Cost per
Item
Net Realizable
Value per Item
Compute the valuation that should be used for the ending inventory using the lower of cost or NRV rule
applied on an item-by-item basis.
Item
Quantity
Cost per
Item
Net Realizable
Value per Item
Lower of
Cost or NRV
per Item
Total Lower of
Cost or NRV
AA
100
$ 30
$ 26
$ 26
$ 2,600
150
80
80
80
12,000
100
$34,600
Item AA should be recorded in the ending inventory at the current net realizable value ($2,600) because it
is lower than the cost ($3,000 = 100 × $30). The following journal entry would be prepared to record the
write-down:
Date
Accounts
Debit
Credit
Dec. 31
Chapter 07 – Reporting and Interpreting Cost of Goods Sold and Inventory
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HANDOUT 7 – 3
PURCHASE TRANSACTIONS
On February 2, Hamm Manufacturing Corp. purchased $40,000 worth of inventory, on credit terms 3/10
n/30. On February 10, Hamm paid for the inventory, taking advantage of all available discounts.
Prepare the required journal entries.
Debit and credit the accounts affected
Debit and credit the accounts affected
Chapter 07 – Reporting and Interpreting Cost of Goods Sold and Inventory
HANDOUT 7 – 3 SOLUTION
PURCHASE TRANSACTIONS
On February 2, Hamm Manufacturing Corp. purchased $40,000 worth of inventory, on credit terms 3/10
n/30. On February 10, Hamm paid for the inventory, taking advantage of all available discounts.
Prepare the required journal entries.
Ensure the equation still balances and debits = credits
Assets
=
Liabilities
+
Stockholders’ Equity
Acct. Rec.
+40,000
Acct Pay.
+40,000
Ensure the equation still balances and debits = credits