After studying this chapter you will be able to: list the key assumptions of each inventory method, calculate the cost of ending inventory and cost of goods sold for each inventory method, calculate the cost ratio and ending inventory at cost for the retail method, calculate the estimated inventory using the gross profit method, explain and calculate inventory turnover, explain overhead; allocate overhead according to floor space and sales.
INVENTORY AND OVERHEAD Chapter Eighteen McGrawHill/Irwin Copyright © 2014 by The McGrawHill Companies, Inc. All rights reserved Learning unit objectives LU 18-1: Assigning Costs to Ending Inventory - Specific Identification; Weighted Average; FIFO; LIFO List the key assumptions of each inventory method Calculate the cost of ending inventory and cost of goods sold for each inventory method LU 18-2: Retail Method; Gross Profit Method; Inventory Turnover; Distribution of Overhead Calculate the cost ratio and ending inventory at cost for the retail method Calculate the estimated inventory using the gross profit method Explain and calculate inventory turnover Explain overhead; allocate overhead according to floor space and sales 182 Inventory Systems Perpetual Inventory System – Periodic Inventory System – Keeps a running account of inventory by updating with each transaction Relies on a physical count of inventory done periodically 183 Blue Company Inventory Information Number of Units Purchased Beginning inventory 40 First purchase (April 1) 20 Second purchase (May 1) 20 Third purchase (Oct 1) 20 Fourth purchase (Dec 1) 20 Goods available for sale 120 Units sold 72 Units in ending inventory 48 Cost per Unit $8 10 12 13 Total Cost $320 180 200 240 260 $1,200 Step 184 Specific Identification Method Beg Inv 4/1 5/1 10/1 12/1 Step Calculate the cost of goods (merchandise available for sale) Step Calculate the cost of ending inventory Step Calculate the cost of goods sold (Step Step 2) 185 Specific Identification Method Cost per Unit Total Cost 20 units from April $ $180 20 units from Oct 12 240 units from Dec 13 104 Cost of ending inventory Cost of goods available for sale $1,200 $524 Cost of ending inventory = Cost of goods sold $524 = $676 Step Step 186 Weighted-Average Method Beg Inv 4/1 5/1 10/1 12/1 Step Calculate the average unit cost Step Calculate the cost of ending inventory Step Calculate the cost of goods sold (Step Step 2) 187 Weighted-Average Method Beginning inventory First purchase (April 1) Second purchase (May 1) Third purchase (Oct 1) Fourth purchase (Dec 1) Goods available for sale Units sold Units in ending inventory Weighted average = unit cost Number of Units Purchased 40 20 20 20 20 120 72 48 Cost per Unit $ 10 12 13 Total cost of goods available for sale = Total number of units available for sale Total Cost $320 180 200 240 260 $1,200 $1,200 = 120 $10 Average cost of ending inventory: 48 units at $10 = $480 Cost of goods sold = $1,200 $480 = $720 188 First-In, First-Out Method Beg Inv 4/1 5/1 10/1 12/1 Step List the units to be included in the ending inventory and their costs Step Calculate the cost of ending inventory Step Calculate the cost of goods sold (Step Step 2) 189 First-In, First-Out Method Number of Cost Total Units Purchased per Unit Cost 40 $ $320 20 180 20 10 200 20 12 240 20 13 260 120 $1,200 72 20 units from Dec at $13 $260 48 20 units from Oct at $12 240 Beginning inventory First purchase (April 1) Second purchase (May 1) Third purchase (Oct 1) Fourth purchase (Dec 1) Goods available for sale Units sold Units in ending inventory units from May at $10 80 48 units in ending inventory $580 Goods available for sale Cost of ending inventory = $1,200 $580 = Cost of goods sold $620 1810 Last-In, First-Out Method Beg Inv 4/1 5/1 10/1 12/1 Step List the units to be included in the ending inventory and their costs Step Calculate the cost of ending inventory Step Calculate the cost of goods sold (Step Step 2) 1811 Last-In, First-Out Method Number of Cost Total Units Purchased per Unit Cost Beginning inventory 40 $8 $320 First purchase (April 1) 20 180 Second purchase (May 1) 20 10 200 Third purchase (Oct 1) 20 12 240 Fourth purchase (Dec 1) 20 13 260 Goods available for sale 120 $1,200 Units sold 72 Units in ending inventory 48 40 units from beginning inventory at $8 $320 units from Apr at $9 72 48 units in ending inventory $392 Goods available for sale Cost of ending inventory = $1,200 $392 = Cost of goods sold $808 1812 Summary 1813 Estimating Inventory – Retail Method Step Calculate the cost of goods available for sale at cost and retail Step Calculate a cost ratio using the following formula: Cost of goods available for sale at cost Cost of goods available for sale at retail Step Deduct net sales from cost of goods available for sale at retail Step Multiply the cost ratio by the ending inventory at retail 1814 Estimating Inventory – Retail Method Cost Retail $4,000 $6,000 2,300 3,000 $6,300 $9,000 (Step 3) 4,000 Beginning inventory Net purchases during month Cost of goods available for sale (Step 1) Less net sales for month Ending inventory at retail Cost ratio ($6,300/$9,000) (Step 2) Ending inventory at cost ($5,000 x 70) (Step 4) $5,000 70% $3,500 1815 Estimating Inventory – Gross Profit Method Example: Assuming the following, calculate the estimated inventory Gross profit on sales 30% Beginning inventory, Jan 1, 2013 $20,000 Net purchases 8,000 Net sales at retail for Jan 12,000 Step Calculate the cost of goods available for sale (Beginning inventory + Net purchases) Step Multiply the net sales at retail by the complement of the gross profit rate This is the estimated cost of goods sold Step Calculate the cost of estimated ending inventory (Step Step 2) 1816 Estimating Inventory – Gross Profit Method Beginning inventory, June 1, 2013 Net purchases Cost of goods available for sale (Step 1) $20,000 8,000 $28,000 Less estimated cost of good sold: Net sales at retail $12,000 Cost percentage (100% - 30%) (Step 2) x 70 Estimated cost of goods sold - 8,400 Estimated ending inventory, Jan 30, 2013 (Step 3) $19,600 1817 Inventory Turnover Inventory turnover is the number of times inventory is replaced during a specific time Inventory turnover at retail = Net sales Average inventory at retail Inventory turnover at cost = Cost of goods sold Average inventory at cost 1818 Inventory Turnover Net sales $32,000 Cost of goods sold Beginning inventory at retail 11,000 Beginning inventory at cost Ending inventory at retail 8,900 Ending inventory at cost $22,000 7,500 5,600 Average inventory = Beginning inventory + Ending inventory $32,000 At retail = $11,000 + $8,900 At cost = $22,000 $7,500 + $5,600 = $32,000 $9,950 = 3.22 = $22,000 $6,550 = 3.36 Usually higher due to theft, spoilage, markdowns, etc 1819 Calculating the Distribution of Overhead by Floor Space Step Calculate the total square feet in all departments Step Calculate the ratio for each department based on floor space Step Multiply each department’s floor space ratio by the total overhead 1820 Calculating the Distribution of Overhead by Floor Space Roy Company Department A Department C - 6,000 square feet - 1,000 square feet Department B - 3,000 square feet Overhead of $90,000 Floor Space Ratio Department A Department B Department C Department A Department B Department C 6,000 10,000 3,000 10,000 1,000 10,000 6,000 = 60% 3,000 = 30% 1,000 = 10% Step & 60 x $90,000 = $54,000 30 x $90,000 = $27,000 10 x $90,000 = $ 9,000 1821 Calculating the Distribution of Overhead by Sales Step Calculate the total sales in all departments Step Calculate the ratio for each department based on sales Step Multiply each department’s sales ratio by the total overhead 1822 Calculating the Distribution of Overhead by Sales Morse Company distributes its overhead expenses based on the sales of its departments For example, last year Morse’s overhead expenses were $60,000 Sales of its two departments were as follows, along with its ratio calculation Sales Department A = 80 Department B = 20 Department A Department B Ratio $80,000 $ 80,000 $100,000 20,000 $20,000 $100,000 $100,000 80 x $60,000 = 20 x $60,000 = $48,000 $12,000 $60,000 Total overhead expenses 1823 ... estimated inventory using the gross profit method Explain and calculate inventory turnover Explain overhead; allocate overhead according to floor space and sales 182 Inventory Systems Perpetual Inventory. .. Beginning inventory at retail 11,000 Beginning inventory at cost Ending inventory at retail 8,900 Ending inventory at cost $22,000 7,500 5,600 Average inventory = Beginning inventory + Ending inventory. .. LU 1 8-1 : Assigning Costs to Ending Inventory - Specific Identification; Weighted Average; FIFO; LIFO List the key assumptions of each inventory method Calculate the cost of ending inventory and