*PROBLEM 8.10
The accounts in the 2020 financial statements which would be affected by
a change to LIFO and the new amount for each of the accounts are as
follows:
Account
New amount
for 2020
(1)
Cash
$176,400
(2)
Inventory
(3)
Retained earnings
(4)
Cost of goods sold
(5)
Income taxes
The calculations for both 2019 and 2020 to support the conversion to LIFO
are presented below.
12/31/19
12/31/20
Sales
$900,000
$1,350,000
Less: Cost of goods sold
525,000
792,000
Other expenses
205,000
304,000
730,000
Income before taxes
170,000
254,000
Cost of Good Sold and
Ending Inventory for the Years Ended
12/31/19
12/31/20
Beginning inventory
( 40,000 X $3.00)
$120,000
( 40,000 X $3.00)
$120,000
Purchases
(150,000 X $3.50)
525,000
(180,000 X $4.40)
792,000
Cost of goods available
645,000
912,000
Ending inventory
( 40,000 X $3.00)
(120,000)
( 40,000 X $3.00)
Cost of goods sold
Determination of Cash at
12/31/19
12/31/20
Income taxes under FIFO
$ 76,000
$116,000
Income taxes as calculated under LIFO
68,000
101,600
Increase in cash
8,000
14,400
difference
—
8,000
Total increase in cash
8,000
22,400
*PROBLEM 8.10 (Continued)
Determination of Retained Earnings at
12/31/19
12/31/20
Net income under FIFO
$114,000
$174,000
Net income under LIFO
Reduction in retained earnings
12,000
21,600
2019 reduction
12,000
Total reduction in retained earnings
12,000
33,600
Retained earnings under FIFO
TIME AND PURPOSE OF CONCEPTS FOR ANALYSIS
CA 8.1 (Time 15–20 minutes)
CA 8.2 (Time 15–25 minutes)
Purpose—to provide the student with four questions about the carrying value of inventory. These
questions must be answered and defended with rationale. The topics are shipping terms, freight–in,
gross vs. net treatment of discounts, and consigned goods.
CA 8.3 (Time 25–35 minutes)
Purpose—to provide a number of difficult financial reporting transactions involving inventories. This case
CA 8.4 (Time 15–25 minutes)
Purpose—to provide the student with the opportunity to discuss the acceptability of alternative methods
of reporting cash discounts.
CA 8.5 (Time 15–20 minutes)
CA 8.6 (Time 20–25 minutes)
SOLUTIONS TO CONCEPTS FOR ANALYSIS
CA 8.1
(a) Purchased merchandise in transit at the end of an accounting period to which legal title has
passed should be recorded as purchases within the accounting period. If goods are shipped f.o.b.
for the merchandise and the freight.
(b) Inventory ………………………………………………………………………………….. 35,300
Accounts Payable—Supplier …………………………………………………… 35,300
(c) Possible reasons to postpone the recording of the transaction might include:
1. Desire to maintain a current ratio at a given level which would be affected by the additional
CA 8.2
(a) If the terms of the purchase are f.o.b. shipping point (manufacturer’s plant), Strider Enterprises
should include in its inventory goods purchased from its suppliers when the goods are shipped.
For accounting purposes, title is presumed to pass at that time.
(b) Freight-in expenditures should be considered an inventoriable cost because they are part of the
price paid or the consideration given to acquire the asset.
CA 8.3
(a) According to IFRS, cost generally means that the sum of the applicable expenditures and charges
directly or indirectly incurred in bringing an article to its existing condition and location. With
respect to inventory, selling expenses are not part of the inventory costs. To the extent that
warehousing is a necessary function of importing merchandise before it can be sold, certain
elements of warehousing costs might be considered an appropriate cost of inventory in the
warehouse. For example, if goods must be brought into the warehouse before they can be made
(b) It is correct to conclude that obsolete items are excludable from inventory. Cost attributable to
such items is “nonuseful” and “nonrecoverable” cost (except for possible scrap value) and should
be written off. If the cost of obsolete items was simply excluded from ending inventory, the resultant
cost of goods sold would be overstated by the amount of these costs. The cost of obsolete items, if
immaterial, should be commingled with cost of goods sold. If material, these costs should be
separately disclosed.
CA 8.4
(a) Cash discounts should not be accounted for as financial income when payments are made.
Income should be recognized when the performance obligation is satisfied (when the company
CA 8.4 (Continued)
(b) Cash discounts should not be accounted for as a reduction of cost of goods sold for the period
when payments are made. Cost of goods sold should be reduced when the earnings process is
CA 8.5
(a) The average-cost method assumes that inventories are sold or issued evenly from the stock on
hand; and the FIFO method assumes that goods are sold or used in the order in which they are
purchased (i.e., the first goods purchased are the first sold or used.)
(b) The weighted-average cost method combines the cost of all the purchases in the period with the
CA 8.6
(a) Major stakeholders are investors, creditors, Wilkens’ management (including the president and
plant accountant), and other employees of Wilkens Company. The inventory purchase in this instance
reduces net income substantially and lowers Wilkens Company’s tax liability. Current shareholders and
(b) No, the president would not recommend a year-end inventory purchase because under FIFO there
would be no effect on net income.
FINANCIAL STATEMENT ANALYSIS CASE 1
(a)
Sales ………………………………………………………………
€618,876,000
Cost of goods sold* …………………………………………
476,746,000
Gross profit …………………………………………………….
142,130,000
Selling and administrative expenses …………………
102,112,000
Income from operations …………………………………..
Other expense …………………………………………………
24,712,000
Income before income tax ………………………………..
€ 15,306,000
€475,476,000
AC effect (€5,263,000 – €3,993,000) …………………..
(b) €15,306,000 income before income tax X 46.6% tax = €7,132,596 tax;
€15,306,000 – €7,132,596 tax = €$8,173,404 net income as compared to
(c) No, the use of different costing methods does not necessarily mean
that there is a difference in the physical flow of goods. As explained
FINANCIAL STATEMENT ANALYSIS CASE 2
(a) The most likely physical flow of goods for a pharmaceutical manufac–
turer would be FIFO; that is, the first goods manufactured would be the
(b) Noven should consider first whether the inventory costing method
will make a difference. If the prices in the economy, especially if the
(c) This amount is likely not shown in a separate inventory account
because it is immaterial; that is, it is not large enough to make a differ–
*FINANCIAL STATEMENT ANALYSIS CASE 3
Feb. 26
Feb. 25
Feb. 24
2018
2019
2020
Revenues ………………………….
$19,543
$19,864
$37,406
Cost of sales ……………………..
16,681
16,977
29,267
Ending inventories at FIFO …
Ending inventories at LIFO …
LIFO reserve ………………
149
178
FIFO adjusted cost of sales …
$29,249
(a)
2019
2020
(i)
Inventory turnover @LIFO
17.10
15.81
(ii)
Inventory turnover @FIFO
14.78
14.48
(b)
2019
2020
(i)
Inventory turnover using sales and LIFO
20.00
20.20
(ii)
Inventory turnover using sales and FIFO
17.31
18.51
(c) It appears that Superstore calculates its Inventory Turnover using
LIFO inventory with the standard formula of Cost of Sales/Average
Inventory.
ACCOUNTING, ANALYSIS, AND PRINCIPLES
ACCOUNTING
(a) FIFO:
Residential pumps:
Ending inventory cost = (300 X £500) + (200 X £475) = £245,000
Commercial pumps:
Ending inventory at cost = (500 X £1,000) = £500,000
(b) Average Cost:
Residential pumps:
Date
No. Units
Unit Cost
Total Cost
Mar. 1
200
£400
£ 80,000
400
ACCOUNTING, ANALYSIS, AND PRINCIPLES (Continued)
Commercial pumps:
Date
No. Units
Unit Cost
Total Cost
Mar. 1
600
£800
£ 480,000
3
600
500,000
£1,805,000
Average cost/unit = £1,805,000 ÷ 2,000 = £902.50
ANALYSIS
(a) The purpose of a current ratio is to provide some indication of the
(b) An analyst would be better able to compare results of companies
using different inventory methods by attempting to convert one of the
ACCOUNTING, ANALYSIS, AND PRINCIPLES (Continued)
PRINCIPLES
(a) Companies can change from one inventory accounting method to
another, but not back and forth. Changes in accounting method (when
not mandated by a regulatory body such as the IASB or FASB) should
(b) U.S. GAAP allows use of LIFO. So, if U.S. companies adopt IFRS,
RESEARCH CASE
(a) The recent standard (IFRS 15), Revenue for Contracts with Customers,
provides guidance for revenue recognition when right of return exists.
(c) Returns are allowed to satisfy customers and to encourage them to
order larger quantities. Yes, industries such as publishing, music, and
toys often permit purchasers to return inventory for a full or partial
refund.