5-1
CHAPTER 5
Inventories and
Cost of Goods Sold
OVERVIEW OF EXERCISES, PROBLEMS, AND CASES
Estimated
Time in
Learning Objectives Exercises Minutes Level
Module 1
1. Identify the forms of inventory held by different types of 1 10 Easy
businesses and the types of costs incurred. 2 10 Mod
6 20 Mod
7 20 Mod
8 15 Mod
14 20 Mod
20* 25 Mod
21* 15 Mod
22* 10 Mod
26* 10 Mod
4. Use the gross profit ratio to analyze a company’s ability 9 10 Mod
to cover its operating expenses and earn a profit. 23* 10 Mod
Module 2
24* 25 Mod
7. Analyze the effects of the different costing methods on 12 15 Mod
inventory, net income, income taxes, and cash flow. 24* 25 Mod
27* 40 Mod
Module 3
8. Analyze the effects of an inventory error on various financial 13 25 Mod
statement items.
5-2 FINANCIAL ACCOUNTING SOLUTIONS MANUAL
Estimated
Time in
Learning Objectives (Continued) Exercises Minutes Level
Module 4
10. Analyze the management of inventory. 15 20 Mod
16 10 Diff
Module 5
12. Explain the differences in the accounting for periodic and 27* 40 Mod
perpetual inventory systems and apply the inventory
costing methods using a perpetual system (Appendix).
CHAPTER 5 • INVENTORIES AND COST OF GOODS SOLD 5-3
Problems Estimated
and Time in
Learning Objectives Alternates Minutes Level
Module 1
1. Identify the forms of inventory held by different types of 1 25 Mod
businesses and the types of costs incurred. 14* 20 Mod
to cover its operating expenses and earn a profit. 8* 40 Mod
Module 2
5. Explain the relationship between the valuation of inventory 10* 45 Mod
and the measurement of income. 11* 60 Diff
12* 30 Mod
13* 30 Mod
Module 3
8. Analyze the effects of an inventory error on various financial 4 45 Diff
statement items. 14** 20 Mod
Module 4
10. Analyze the management of inventory. 5 30 Mod
Module 5
12. Explain the differences in the accounting for periodic and 11* 60 Diff
perpetual inventory systems and apply the inventory
costing methods using a perpetual system (Appendix).
5-4 FINANCIAL ACCOUNTING SOLUTIONS MANUAL
Estimated
Time in
Learning Objectives Cases Minutes Level
Module 1
1. Identify the forms of inventory held by different types of 1* 25 Mod
businesses and the types of costs incurred.
2. Explain how wholesalers and retailers account for 4* 20 Mod
sales of merchandise. 5* 20 Mod
Module 2
5. Explain the relationship between the valuation of inventory
and the measurement of income.
9 30 Mod
Module 3
8. Analyze the effects of an inventory error on various financial 8 30 Mod
statement items.
Module 4
10. Analyze the management of inventory.
Module 5
12. Explain the differences in the accounting for periodic and
perpetual inventory systems and apply the inventory
costing methods using a perpetual system (Appendix).
CHAPTER 5 • INVENTORIES AND COST OF GOODS SOLD 5-5
EXERCISES
LO 1 EXERCISE 5-1 CLASSIFICATION OF INVENTORY COSTS
Classification
Raw Work in Finished Merchandise
Inventory Item Material Process Goods Inventory
Fabric X
Lumber X
Unvarnished tables X
LO 1 EXERCISE 5-2 INVENTORIABLE COSTS
List price: $100 × 200 units ……………………………………………………… $20,000
10% volume discount ……………………………………………………………… (2,000)
Freight costs ………………………………………………………………………….. 56
Insurance for goods in transit …………………………………………………… 32
Total cost …………………………………………………………………………. $18,088
5-6 FINANCIAL ACCOUNTING SOLUTIONS MANUAL
LO 2 EXERCISE 5-3 PERPETUAL AND PERIODIC INVENTORY SYSTEMS
1. Company A is using a perpetual inventory system because it has the account Cost of
Goods Sold. Company B is using the periodic inventory system because it uses the
accounts Purchases and Transportation-in.
LO 2 EXERCISE 5-4 PERPETUAL AND PERIODIC INVENTORY SYSTEMS
Perpetual—Appliance store
Perpetual—Car dealership
CHAPTER 5 • INVENTORIES AND COST OF GOODS SOLD 5-7
LO 3 EXERCISE 5-5 MISSING AMOUNTS IN COST OF GOODS SOLD MODEL
Case 1:
(a) Beginning inventory: cost of goods available for sale – cost of goods purchased =
$7,110 – ($5,560 + $150) = $7,110 – $5,710 = $1,400
Case 2: [must first solve (d), then (c)]
(d) Cost of goods available for sale: cost of goods sold + ending inventory = $5,570 +
$1,750 = $7,320
Case 3:
(e) Net purchases:
5-8 FINANCIAL ACCOUNTING SOLUTIONS MANUAL
LO 3 EXERCISE 5-6 PURCHASE DISCOUNTS
Journal July 3 Purchases ………………………………………. 3,465
Entry Accounts Payable ……………………….. 3,465
Journal July 12 Accounts Payable ……………………………. 3,465
Entry Cash …………………………………………. 3,465
Analysis To record payment on account.
LO 3 EXERCISE 5-7 SHIPPING TERMS AND TRANSFER OF TITLE
1. The seller pays shipping costs when merchandise is shipped FOB destination point.
2. The inventory should not be included as an asset on Michael’s December 31, 2016,
balance sheet because the terms of shipment indicate that the merchandise does
3. If the terms of shipment were FOB shipping point, the answers to both questions in
part (2) above would change. Under these terms, the inventory belongs to Michael
as soon as it is shipped, and because this is on December 23, 2016, the asset
should be recognized on the year-end balance sheet. Similarly, Miller would record a
sale in 2016.
CHAPTER 5 • INVENTORIES AND COST OF GOODS SOLD 5-9
LO 3 EXERCISE 5-8 TRANSFER OF TITLE TO INVENTORY
Purchases of merchandise that are in transit from vendors to Cameron Companies on
December 31, 2016:
LO 4 EXERCISE 5-9 WORKING BACKWARD: GROSS PROFIT RATIO
The prior year’s gross profit ratio was ($120,000 – $90,000)/$120,000 = 25%. The ratio
LO 5 EXERCISE 5-10 INVENTORY AND INCOME MANIPULATION
By ignoring the large order at year-end, and thus including the inventory in the year-end
count, the company will overstate ending inventory. This in turn will lead to an under-
5-10 FINANCIAL ACCOUNTING SOLUTIONS MANUAL
LO 6 EXERCISE 5-11 INVENTORY COSTING METHODS
1. Ending inventory:
(65 – 55) × $20 = $ 200
(50 – 35) × $22 = 330
2. Ending inventory:
45 × $24 = $1,080
35 × $23 = 805
3. Ending inventory:
65 × $20 = $1,300
15 × $22 = 330
CHAPTER 5 • INVENTORIES AND COST OF GOODS SOLD 5-11
EXERCISE 5-11 (Concluded)
4. Cost of goods available for sale and units available:
65 × $20 = $1,300
50 × $22 = 1,100
60 × $23 = 1,380
LO 7 EXERCISE 5-12 EVALUATION OF INVENTORY COSTING METHODS
1. a 4. c 7. b
LO 8 EXERCISE 5-13 INVENTORY ERRORS
Balance Sheet Income Statement
Retained Cost of Net
Inventory Earnings Goods Sold Income
1. U U O U
2. O O U O
3. U U O U
Hint: To summarize, if ending inventory is understated, then cost of goods sold is over-
5-12 FINANCIAL ACCOUNTING SOLUTIONS MANUAL
LO 3 EXERCISE 5-14 TRANSFER OF TITLE TO INVENTORY
1. Michelson should include the costs in its inventory since the merchandise had not
arrived at its destination, PJ’s, by the end of the year and it belongs to Michelson
until arrival.
LO 10 EXERCISE 5-15 INVENTORY TURNOVER FOR NORDSTROM
1. Inventory turnover for 2013 = Cost of goods sold/Average inventory = $7,737/
[($1,531 + $1,360)/2] = $7,737/$1,445.5 = 5.35 times
LO 10 EXERCISE 5-16 WORKING BACKWARD: INVENTORY TURNOVER
If it takes the company 90 days to sells its inventory, the inventory turnover ratio is
360/90 = 4 times per year. The inventory turnover ratio is:
CHAPTER 5 • INVENTORIES AND COST OF GOODS SOLD 5-13
LO 11 EXERCISE 5-17 IMPACT OF TRANSACTIONS INVOLVING INVENTORIES ON
STATEMENT OF CASH FLOWS
Increase in accounts payable: A
LO 11 EXERCISE 5-18 EFFECTS OF TRANSACTIONS INVOLVING INVENTORIES ON THE
STATEMENT OF CASH FLOWS—DIRECT METHOD
Cash payments for inventory to be reported in the operating activities of Masthead’s
2016 statement of cash flows (direct method):
Inventory, December 31, 2015 ………………………………………….. $ 180,400
Purchases during 2016 ……………………………………………………. X
LO 11 EXERCISE 5-19 EFFECTS OF TRANSACTIONS INVOLVING INVENTORIES ON THE
STATEMENT OF CASH FLOWS—INDIRECT METHOD
Cash flows from operating activities:
Net income ……………………………………………………………… $ xx,xxx
5-14 FINANCIAL ACCOUNTING SOLUTIONS MANUAL
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MULTI-CONCEPT EXERCISES
LO 2,3 EXERCISE 5-20 INCOME STATEMENT FOR A MERCHANDISER
a. Cost of goods purchased – Transportation-in = Net purchases
$81,150 – $6,550 = $74,600
LO 2,3 EXERCISE 5-21 PARTIAL INCOME STATEMENT—PERIODIC SYSTEM
LAPINE COMPANY
INCOME STATEMENT
FOR THE YEAR ENDED DECEMBER 31, 2016
Net sales ………………………………………………………. $78,300
Cost of goods sold:
Beginning inventory …………………………………… $ 4,000
CHAPTER 5 • INVENTORIES AND COST OF GOODS SOLD 5-15
LO 3,6 EXERCISE 5-22 COST OF GOODS SOLD, FIFO, AND LIFO
Cost of goods available for sale:
200 units × $5 = $1,000
LO 4,6 EXERCISE 5-23 WEIGHTED AVERAGE COST METHOD AND GROSS PROFIT
RATIO
1. Beginning inventory 2,000 units × $ 6 = $ 12,000
Purchases:
5,000 units × $ 8 = 40,000
8,000 units × $10 = 80,000
2. Sales = $15 × 9,000 units = $135,000
Cost of goods sold expense (from above) 79,200
5-16 FINANCIAL ACCOUNTING SOLUTIONS MANUAL
LO 6,7 EXERCISE 5-24 INVENTORY COSTING METHODS—PERIODIC SYSTEM
1. a. Weighted average method:
Cost of goods available for sale and units available:
200 × $10 = $ 2,000
300 × $11 = 3,300
400 × $12 = 4,800
b. FIFO method:
Ending inventory cost:
150 × $15 = $2,250
150 × $13 = 1,950
300 $4,200
c. LIFO method:
Ending inventory cost:
200 × $10 = $2,000
100 × $11 = 1,100
300 $3,100
CHAPTER 5 • INVENTORIES AND COST OF GOODS SOLD 5-17
EXERCISE 5-24 (Concluded)
2. LIFO cost of goods sold …………………………………… $12,500
FIFO cost of goods sold …………………………………… 11,400
Difference in expenses ……………………………………. $ 1,100
3. If Carter Inc. prepares its financial statements in accordance with IFRS, it is not
allowed to use LIFO. Under IFRS, LIFO cannot be used; so the weighted average
method will result in the largest cost of goods sold, the lowest income, and conse-
quently the lowest income tax for Carter.
LO 5,9 EXERCISE 5-25 LOWER-OF-COST-OR-MARKET RULE
Conservatism is the rationale for carrying inventory on the balance sheet at an amount
less than its cost. It is a departure from the historical cost principle and is used when the
utility of the inventory, as measured by the cost to replace it, is less than the original
cost.
LO 3,11 EXERCISE 5-26 WORKING BACKWARD: COST OF GOODS SOLD AND THE
STATEMENT OF CASH FLOWS
Because the change in the Inventory account during the period of $6,000 was added on
the statement of cash flows, the inventory decreased during the period by this amount.
5-18 FINANCIAL ACCOUNTING SOLUTIONS MANUAL
LO 7,12 EXERCISE 5-27 INVENTORY COSTING METHODS—PERPETUAL SYSTEM
(Appendix)
1. a. Moving average:
Purchases
Sales Balance
Unit Total Unit Total Unit
Date Units Cost Cost Units Cost Cost Units Cost Balance
1/1 200 $10 $2,000
2/12 150 $10 $ 1,500 50 10 500
3/5 300 $11 $3,300 350 10.8571 3,800
All amounts rounded to agree with total cost.
1 50 × $10 = $ 500
300 × 11 = 3,300
350 $ 3,800; $3,800/350 = $10.857
CHAPTER 5 • INVENTORIES AND COST OF GOODS SOLD 5-19
EXERCISE 5-27 (Continued)
1. b. FIFO:
Purchases
Sales Balance
Unit Total Unit Total Unit
Date Units Cost Cost Units Cost Cost Units Cost Balance
1/1 200 $10 $2,000
2/12 150 $10 $ 1,500 50 10 500
3/5 300 $11 $3,300 50 10
250 13 7,450
9/6 300 12 3,600 50 12
250 13 3,850
5-20 FINANCIAL ACCOUNTING SOLUTIONS MANUAL
EXERCISE 5-27 (Continued)
1. c. LIFO:
Purchases
Sales Balance
Unit Total Unit Total Unit
Date Units Cost Cost Units Cost Cost Units Cost Balance
1/1 $200 $10 $2,000
2/12 150 $10 $ 1,500 50 10 500
3/5 300 $11 $3,300 50 10
100 11
200 12 4,000
8/23 250 13 3,250 50 10
100 11
200 12
250 13 7,250
2. EXERCISE 5-24: EXERCISE 5-27:
E/I CGS E/I CGS
Average cost $3,600 $12,000 $3,947 $11,653 Different
FIFO 4,200 11,400 4,200 11,400 Same
LIFO 3,100 12,500 3,400 12,200 Different