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Inventory

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Goods that are purchased for the purpose of resale to customers All purchases are recorded at cost In most merchandising companies: -Inventory is a relatively liquid asset (sold within a few days or weeks) -Appears near the top of the balance sheet

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Operating Cycle

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Series of transactions through which a business generates its revenue and cash receipts from customers Merchandising Company: 1. purchase of inventory 2. sales of the merchandise 3. Collection of AR

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Manufacturing Companies

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Manufacture their own inventory Operating cycle is much longer and more complex

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Merchandising Activity: Retailers

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Business that sells merchandise directly to the public

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Merchandising Activity: Wholesalers

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Buy large quantities of merchandise from several different manufacturers and then resell this merchandise to many different retailers

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Merchandising Company's Income Statement

answer

Sales -COGS =Gross Profit -Other Expenses =Net Income

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Merchandising COGS

answer

Cost of the amount of inventory sold must be removed from the balance sheet and expensed

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Gross Profit

answer

Represents the profitability of sales transactions... but, NOT the overall profitability of the company

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Net Income

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Positive only is gross profit exceeds the sum of its other expenses

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Control accounts

answer

General ledger accounts, does not contain detailed information for running a business

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Subsidiary Ledgers

answer

Contains detailed information about specific control accounts in the company's general ledger Useful in running the business Merchandising companies always maintain individual customers accounts in the AR and AP subsidiary ledgers (subsidiary ledgers add up the total AR and AP general ledger balance reported in the balance sheet) Inventory Subsidiary Ledger: Merchandising companies setup these by creating a separate inventory account for each item they sell (one type of product), show quantities and costs of all units purchased, sold, and currently in stock

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Perpetual Inventory System

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All transactions involving costs pf merchandise are recorded immediately as they occur Perpetually up-to-date Inventory Subsidiary Ledger: info about each product (per-unit cost, # of units purchased, sold and currently on hand) Computerized accounting systems makes this method easy and cost-effective

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Purchase of Merchandise (Perpetual)

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Debit: Inventory Credit: AP (Supplier Company Name) purchased # specific product units for $x each; payment due in y days

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Sales of Merchandise (Perpetual)

answer

Debit: AR (customer name) [sales price x # units sold] Credit: Sales [sales price x # units sold] sold # specific product units for $x each; payment due in y days Second journal entry required (matching principle): Debit: COGS Credit: Inventory to transfer cost of # specific products ($x each) from Inventory to the COGS account

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Matching Principle

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Revenue be matched (offset) with all the costs and expenses incurred in producing that revenue

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Payments of AP to suppliers (Perpetual)

answer

Debit: AP (supplier company name) Credit: Cash Paid AP.

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Collection of AR from customers (Perpetual)

answer

Debit: Cash Credit: AR (customer name) collected an account receivable from a credit customer Collection of cash signifies end of the operating cycle with respect to this transaction

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Periodic Inventory System

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amount of inventory determined only at the year-end mgmt uses the inventory ledger to determine the product-by-product basis basis whether the physical count of the inventory on hand corresponds to the amount indicated in the inventory subsidiary ledger record inventory and COGS in the year-end closing procedures Used by small businesses with manual accounting systems

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Inventory Shrinkage

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unrecorded decreases in inventory resulting from such factors as breakage, spoilage, employee theft and shoplifting Perpetual Inventory Method Debit: COGS Credit: Inventory to adjust perpetual inventory records to reflect the results of the year-end physical count

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Taking a physical inventory

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most corporations require physical count of inventory usually at year end to ensure accuracy Inventory control account and subsidiary ledger are adjusted to the physical count

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Recording Purchases of Merchandise (Periodic)

answer

Debit: Purchases Credit: AP (supplier company name) purchased inventory on account, due in x days [no inventory subsidiary ledger in a periodic system]

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Computing the COGS (Periodic)

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1. Complete physical inventory 2. Calculation: Beg Inventory Add: Purchases =COG available for sale Less: End Inventory (physical count) =COGS

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Creating a COGS Account (Periodic)

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Debit: COGS Credit: Inventory (beg. balance) Credit: Purchases to close the accounts contributing to COGS for the year Adjusting Entry Debit: Inventory (year-end balance) Credit: COGS to reduce the balance of the COGS account by the cost of merchandise still on hand at year-end

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Credit Terms and Cash Discounts

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Manufacturer or wholesaler invoice to merchandiser: -->n/30 (net 30 days): full payment due in 30 days -->10 eom (10 end of month): payment is due 10 days after the end of month in which the purchase occurred Cash Discount Included: "2/10, net 30": payment due in 30 days, but buyer receives a 2 percent discount if payment is made within 10 days Discount Period: Period in which the discount is available (provides incentive for an early payment) Buyers say: Purchase Discount Sellers say: Sales Discount Net Cost: Invoice price minus the discount available (well managed companies always take advantage of the discount, price they expect to pay)

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Purchase Recorded at Net Cost

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Debit: Inventory [invoice minus net discount] Credit: Accounts Payable [invoice minus net disc.] to record purchase at Net Cost

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Recording loss of net discount

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Debit: Accounts Payable [invoice minus net disc.] Debit: Purchase Discounts lost [net discount lost] (known as a finance charge, similar to interest expense, classified as non-operating expenses) Credit: Cash [total invoice] to record payment of invoice after expiration of the discount period

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Purchases Recorded at Gross price

answer

Standard full price inventory purchase journal entry

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Buyer records discounts taken

answer

Debit: Accounts Payable [full invoice] Credit: Cash [net cost] Credit: Purchase Discounts Taken [purchase disc.] (treated as a reduction to COGS) to record payment of $x invoice within the disc. period; y% purchase disc. taken

question

Net cost vs Gross price method

answer

Gross price fails to direct mgmt attention to discounts lost (as shown by Purchase Discounts Lost expense account in the net cost method)

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Returns of unsatisfactory merchandise

answer

If not yet paid for, recorded as reduction to AP the same way they were recorded when purchased (by net cost or gross price method)

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Transportation of goods to proper site

answer

Recorded in the Transportation-In expense account (usually added to COGS due to the principle of materiality [this is why it can violate the matching principle])

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Net Sales (merchandising)

answer

total sales -sales returns and allowances -sales discounts =net sales

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Sales returns and allowances

answer

Return: customer returns product completely Allowance (reduction made to sales price): company gives customer discount for minor defect Debit: Sales returns and allowances (contra-revenue account, deducted from the gross sales revenue as a step in determining net sales, gives mgmt an indication of customer satisfaction) Credit: AR (or Cash) customer returned merchandise purchased on account. allowed customer full credit for returned merchandise. Second entry must be made to COGS and inventory: Debit: Inventory Credit: COGS to restore in the inventory account the cost of merchandise returned by customer (not necessary when a sales allowance is granted to the customer, who keeps the merchandise)

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Sales Discounts

answer

Sellers: design their systems to measure the sales discounts taken by customers Debit: AR (Buyer Company name) [full invoice] Credit: Sales [full invoice] sold merchandise on account. invoice price, $x; terms 2/10, n/30 If buyer pays within the discount period: Debit: Cash [invoice minus disc.] Debit: Sales Discount [disc. value] (contra-revenue account, deducted from gross sales along with sales returns and allowances) Credit: AR (buyer) [full invoice] collected AR from buyer who took a 2% discount for early payment

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Contra-revenue accounts

answer

Sales Returns and Allowances and Sales Discounts closed to Income Summary account in the same manner as expense accounts (debit balances)

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Delivery Expenses

answer

Operating expense, not part of COGS

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Sales Tax

answer

Consumer bears to tax cost Debit: Cash (AR) [total revenue from sale] Credit: Sales Tax Payable [tax y] Credit: Sales [sale price x] to record sales of $x, subject to y% sales tax

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Special Journal

answer

accounting record or device designed to record a specific type of routine transaction quickly and efficiently

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Point of sale (POS) terminals

answer

Electronic cash registers that record and process sales transactions

question

Chapter 9 ****(on test): Disposal of PPE

answer

1. Catch up depreciation 2. Calc. Gain/Loss (G/L) on disposal Proceeds-NBV=G/L Cost-Accumulated Depreciation(AD)= NBV (Use half-year convention only when told)

question

Financial Assets

answer

Most liquid (cash-like) resources. Shows ability to service debt, purchase inventory, pay taxes and payroll obligations Include: Cash, short-term investments (marketable secruities) and receivables Shown at current values

question

Flow of Cash

answer

AR-->[collections from customers]-->Cash and cash equivalents-->[temporarily invested in marketable securities]-->Cash payments

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Current Value of Financial Assets

answer

Cash (and cash equivalents): Face amount Short-term investments (marketable securities): Fair market value Receivables: Net realizable value

question

Cash

answer

Control account: cash in bank accounts and physical cash on hand in stores Cash equivalents: Short-term investments with high liquidity. Ex. money market funds, US T-Bills, high-grade commercial paper (very short-term notes payable that are issued by large, creditworthy corporations) control account, combined with cash. Must be very safe, have very stable market, and mature within 90 days

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Restricted Cash

answer

Cash reserved for specific purpose, payment of non-current liability ex. bond payable Shown under "Investments and Restricted Funds"

question

Compensating Balance

answer

Terms that a company must quickly replenish a non-interest bearing bank account if used to fulfill a short term obligation. Included in cash on the BS, but must be noted in notes section

question

Lines of credit

answer

Bank has agreed in advance to lend any amount of money up to a specified limit. Company can use money in special bank account. Liability to bank arises once any cash is used. Disclose in notes, as it is neither an asset nor a liability, but simply an ability.

question

Cash mgmt

answer

Planning, Controlling, and accounting for cash transactions and cash balances Objectives: -accurate accounting for cash receipts, cash disbursements and cash balances -prevent/minimize losses from theft or fraud -anticipate need for borrowing and assure adequate amounts of cash for operations -prevent cash from being unused

question

Internal Control over cash

answer

Prevents fraud/theft. Employees who handle cash should not have access to the accounting records. All cash receipts deposited daily in a bank account. All payments by check aside from petty cash. Every expenditure verified before check is issued. Promptly reconcile bank statements.

question

Cash over and short

answer

Record cash shortages in business operations. Debit: Cash Over and Short (shortage) Credit: Cash (shortage) to record a shortage in cash receipts for the day debit bal: miscellaneous expense credit bal: miscellaneous revenue

question

Bank Reconciliation

answer

Schedule explaining the differences between the balance shown in the in the bank statement and balance shown in the depositor's accounting records Depositor prepares a reconciliation May disclose internal control failures such as unauthorized cash disbursements or failures to deposit cash receipts, as well as errors in the bank statement or the depositor's accounting records

question

Normal Differences between the Bank Records and Accounting Records

answer

Outstanding Checks: checks issued and recorded by the company but not yet presented to the bank for payment Deposits in transit: Cash receipts recorded by the depositor that reached the bank too late to be included in the bank statement for the current month Service Charges Charges for depositing "Not Sufficient Funds" (NSF) Credits of interest earned Miscellaneous Bank charges and credits

question

Steps in preparing a bank reconciliation

answer

1. Deposits in transit added to the bank statement 2. Deduct checks issued but not yet paid by bank from the bank statement 3. Add credit memoranda issued by the bank to the depositor records (cash increase) 4. Deduct any debit memoranda issued by the bank to the depositor (cash decrease) 5. Correct errors with adjustments 6. Determine adjusted balance of the bank statement is = to the adjusted balance of the depositor's records 7. Prepare journal entries to record items in the bank reconciliation listed as adjustments to the balance per the depositor's records

question

Marketable Securities

answer

Cash destination for companies with large amounts of liquid assets Can be sold quickly at easily quoted market prices Listed directly after cash on BS per share cost basis (price per share) used in computing ant gains and losses Fair value accounting: MS presented at their current market value in the BS through adjustment to itself and the account "Unrealized Holding Gain (or Loss) in Investments" [part of SHE]

question

Accounts Receivable (AR)

answer

Liquid; converted to cash within 30 to 60 days Appear after cash and marketable securities in the BS Defined as short term assets as long as they are realized within the company's operating cycle

question

Uncollectible Accounts

answer

Some bad debt expense is healthy as it shows the company is not losing sales by turning down customers with worthy credit Uncollectible Accounts Expense: matched to the period to which the credit sale was made (matching principle) Debit: Uncollectible Accounts Expense Credit: Allowance for Doubtful Accounts to record the portion of total AR estimated to be uncollectible

question

Net Realizable Value (NRV)

answer

AR shown in the BS at estimated collectible amount BS AR Less: Allowance for Doubtful Accounts =NRV

question

Allowance for Doubtful Accounts

answer

Contra-asset/Valuation account Credit balance which offsets AR control account Estimate based on: 1. Estimate of uncollectible accounts 2. current balance of ADA *Only charged to the Uncollectible Accounts Expense account at the end of each period (when the expense estimate is confirmed) Writing off an uncollectible account does not change the the NRV (debit ADA, credit AR)-->credit losses matched to the period when the sale occurred, not when the account is determined to be uncollectible

question

Actual Write-offs seldom agree with estimates

answer

If Uncollectible Accounts Expense is less than ADA, ADA will show a credit balance If UAE is greater than ADA, ADA will show a temporarily debit balance (eliminated by end of period adjustment)

question

Adjusting the Allowance for Doubtful Accounts (ADA)

answer

Uncollectible greater than ADA Increasing the ADA: Current balance: Bal. at Jan 31: 10,000 Less: Write-off of account considered worthless: 4,000 Credit Bal. at Feb. 28: $6,000 Debit: Uncollectible Accounts Expense [5,000] Credit: ADA [5,000] to increase the ADA to $x, computed as follows: Required allowance at Feb 28: $11,000 [minus] Credit balance prior to adjustment: $6,000 Required adjustment: $5,000

question

Estimating Credit Losses: The BS Approach

answer

(Aging the AR) Longer account is past due, increased chance of being uncollectible Different percentages of each time frame past due AR group is determined uncollectible (weighted average) Aging Schedule Signifies greater credit balance at month end: Credit Bal. at December 31 (prior to adjustment): 4,000 Credit Adjustment Req.: 1,680 Credit Bal. req. at Dec. 31 (per aging sched.): $5,680 Entry: Debit: Uncollectible Accounts Expense Credit: ADA to increase ADA to its required balance $5,680 More reliable than the IS method because of recognition of timing significance

question

Estimating Credit Losses: The Income Statement Approach

answer

Uncollectible Accounts Expense estimated by percentage of credit sales (estimated by past experience) Entry: Debit: UAE [est. % of credit sales] Credit: ADA [est. % of credit sales] to record the UAE, est. at 2% of credit sales

question

Recoveries of Bad Debts

answer

Write-off error: Debit: ADA Credit: AR (Name) to write off AR as uncollectible Reversing the write-off: Debit: AR (Name) Credit: ADA to reinstate as an asset an AR previously written off And: Debit: Cash Credit: AR (Name) to record the collection of AR from name

question

Direct Write-Off Method

answer

Does not match expense of uncollectible accounts with revenue Entry: Debit: Uncollectible Accounts Expense Credit: AR (name) to write off AR from Name as uncollectible Receivables NOT stated at NRV Should be used when credit sales are small, amount uncollectible not considered material to the company

question

Factoring AR

answer

Company sells its AR to a financial institution (often called a factor) Enables businesses to obtain cash immediately

question

Notes Receivable

answer

Creditors require debtor to sign a promissory note [unconditional promise to pay on demand or at a future date a definite sum of money] when interest is charged Debtor is maker of the note [promises to pay] Expects to pay cash at the maturity date Notes Payable Creditor is the payee of the note [person to whom payment is to be made] Expects to receive cash as the maturity date Notes Receivable

question

Interest

answer

Charge for the use of money Notes Payable--->Interest Expense Notes Receivable--->Interest Revenue

question

Computing Interest

answer

=Principal x Rate of Interest x Time

question

Accounting for Notes Receivable

answer

NR debited at face amount of the note in the balance sheet, regardless of whether the note bears interest When collected: Face amount of note credited to NR Interest Revenue stated in the IS Interest recorded each month under interest receivable At maturity date, entry: Debit: Cash Credit: Note Receivable [face amount] Credit: Interest Receivable [prior months interest] Credit: Interest Revenue [current month interest rev] collected 90-day, 6% note from name (60,000x6%x(3/12)=$900 interest, 600 of which was earned in the current period [current year])

question

Defaulted by the maker

answer

Uncollectible NR Entry made to transfer NR to AR from the debtor Still charged full principal (face amount) as well as full interest [same amount of claim to interest as principal]

question

The Flow of Inventory Costs

answer

Current asset: all goods the company owns and holds for sale

question

Specific Identification

answer

Specific cost of each unit sold is known ACTUAL cost of each unit sold ACTUAL cost of units remaining Logical when units are unique, low volume sales, high price

question

Average Cost Method

answer

Weighted Average of all inventory at varying cost levels OR Divide total balance in inventory by number of units Assigns all units the same average unit cost Current costs are averaged in with older costs

question

First-in, first-out (FIFO)

answer

The older (first) cost are assigned to the units sold. MORE RECENT costs to be used to value ending inventory. (Ending inventory valued higher cost than LIFO as the COGS is lower) COGS: Cost of earliest purchases on hand prior to sale Inventory: Cost of recently purchased items COGS based on older costs Inventory valued at current costs ***May overstate income during periods of rising prices; may increase income taxes due

question

Last-in, first-out (LIFO)

answer

The most recent costs (last costs) to the units sold. That leaves the OLDER costs to be used to value ending inventory. (Ending inventory valued lower cost than FIFO as the COGS is higher) COGS: Cost of most recently purchased units Inventory: Cost of earliest purchases (assumed still in inventory) COGS shown at recent prices Inventory shown at old (perhaps out of date) costs ***Most conservative method during periods of rising prices; often results in lower income taxes

question

Principle of Consistency

answer

Companies should use one method consistently so that financial statement users can make comparison from period to period

question

Lower of Cost or Market (LCM)

answer

Write down inventory due to the conservatism principle (not to overstate assets) to lower of historical cost (one of the four methods fro valuing inventory cost) or market (current market replacement cost of inventory) --->Select the LOWER of the cost/market value Conservatism trumps the cost principle Only write inventory down, never up

question

Goods in Transit

answer

Free on board (FOB) shipping point: sale recorded when shipped (buyer pays transportation cost) Free on board (FOB) destination: sale recorded when good arrives to buyer (seller pays transportation cost)

question

Specific Identification (Periodic)

answer

COGS=Goods Available for Sale-Ending Inventory All calculated using spec. ident. method

question

Average Cost Method (Periodic)

answer

Ending Inventory: # of units in physical x average cost (weighted average) COGS=# of units sold x average cost

question

FIFO (Periodic)

answer

Ending Inventory amount $: add all purchases starting with the most recent (remember to multiply each amount by its respected price to get an accurate ending inventory) until you reach the # of units in the ending inventory COG Avaib. for sale-ending inventory=COGS

question

LIFO (Periodic)

answer

Oppoisite. Add first purchases until you reach the # of units of ending inventory. COG Avaib. for sale-ending inventory=COGS

question

Interim FS with periodic with no physical inventory

answer

Gross Profit Method: simply use historical gross profit rate Retail Method: value of ending inventory at retail prices Cost/retail price=cost ratio Need to know the physical count of inventory prices at retail Then multiply by the cost ratio to get ENDING INVENTORY

question

Inventory Turnover

answer

COGS/AVG. INVENTORY

question

Avg. days to sell inventory

answer

365/ratio [above]

question

Acquisition of Plant Assets

answer

Cost= Asset Price+Reasonable and necessary costs for getting asset to location and ready for use

question

Capital Expenditure Capex (assets)

answer

Benefit several accounting periods

question

Revenue Expenditure

answer

Expense. Repair and maintenance.

question

Book Value

answer

cost-acc. Depreciation

question

ACc. Depr.

answer

Contra asset

question

Declining Balance Method

answer

Step 1: SL Depreciation Rate 100% divided by UL ex.8 100/8=12.5 Step 2: Find double-declining balance rate multiply SL Depreciation rate by 2 =25% Step 3: Multiply the double-declining rate by the NBV at the beg. of the period to determine depr. of the period Residual value is ignored SL method or declining balance each have the same amount depreciated and residual value at the end of useful life

question

Revising Depreciation Rates

answer

(BV at the time of change-residual value)/remaining UL at the time of the change

question

Disposal of Plant/Equipment

answer

Entry: Cash Acc. Depr.: Machinery Gain on disposal of plant asset Machinery

question

Trading new assets for old ones

answer

Entry: Equip. (new) Acc. Depr. (old equip.) Loss on disposal of asset: expense (BV-fair market value) Equip. (old) cash

question

Intangible Assets

answer

Record at current cash, including purchase price, legal fees and filing fees

question

Amortization

answer

Systematic write-off to expense of the cost of intangible assets over their useful life or legal life, whichever is shorter Debit amortization expense Credit specific intangible account

question

Goodwill

answer

Not amortized if decrease in value simply written down and expense recognized in IS

question

Natural Resources

answer

Depletion Rate: (Cost-Residual Value)/Total Units of NR

ACFM 261 Second Test: Chapters 6-9 Financial Accounting 16th Edition – Flashcards

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