Cookie Creations (Chapters 5 and 6)
BBA 2201, Principles of Accounting I 1 Cou rse Learning Outcomes for Unit V Upon completion of this unit, students should be able to: 3. Prepare inventory systems and costing methods. 3.1 Describe merchandising operations and inventory systems. 3.2 Apply the steps in the accounting cycle to a merchandising company. 3.3 Discuss how to classify and determine inventory. 5. Apply the use of financial statem ents to the decision -making process. 5.1 Apply inventory cost flow methods, and discuss their financial effects. 7. Compare and contrast International Financial Reporting Standards (IFRS) to generally accepted accounting principles (GAAP). 7.1 Indicate the effects of inventory errors on the financial statements. 7.2 Explain the statement presentation and the analysis of inventory. Course/Unit Learning Outcomes Learning Activity 3.1 , 3.2, 3.3, 5.1, 7.1, 7.2 Unit Lesson Chapter 5, pp. 5 -1 to 5 -31 Chapter 6, pp. 6-1 to 6 -24 Unit V Case Study Required Unit Resources Chapter 5: Accounting for Merchandising Operations, pp. 5 -1 to 5-31 Chapter 6: Inventories, pp. 6 -1 to 6-24 Unit Lesson Accounting for M erchandising Operations and Inventories Accounting for a merchandising operation is a little m ore complex for companies than in the service industry.
A business that sells m erchandise or goods to customers is referred to as a merchandiser (W eygandt et al. , 2018). The merchandisers must account f or their inventory of goods that are to be sold to their customers. A company usually has a large amount of capital invested in its inventory. For this reason, it is important to properly account for the inventory to ensure that it is not lost or stolen. Also, the company must keep track of any items that are damaged (and must either be scrapped or sold at a discount). UNIT V STUDY GUIDE Accounting for Merchandising Operations and Inventories BBA 2201, Principles of Accounting I 2 UNIT x STUDY GUIDE Title The illustration below shows the equation used to determine the cost of inventory sold . Inventory [beginning] + Purchases = Goods to be Sold – Inventory [ending] = Cost of Goods Sold: During the first year of a company’s operation, there will be no beginning inventory. Therefore, the total amount of goods available to be sold during the first year will be the amount of inventory that h as been purchased in that year. In subsequent years, the am ount of inventory on hand at the end of the year becomes the amount of inventory available to be sold at the start of the following year. To arrive at the cost of goods sold for the year, you would add the purchases for the year to the beginning inventory balance and then subtract the amount of inventory that did not sell (the ending inventory balance). This calculation will give you the cost of goods sold during that year. As previously stated, it is important that a company keep s track of its inventory. Generally, there are two systems of tracking inventory, and these are periodic and perpetual . The periodic system of inventory tracking is mainly used by sm aller businesses with low -cost inventory items. The periodic system requires that the owner or employee physically count the inventory on hand periodically.
This physical count is then reconciled to the company’s records and adjusted accordingly. As expected, this system does not provide a real -time inventory balance to m anagement. As W eygandt et al. (2018) explain, this system is becoming less popular because of computers and computer software that can track inven tory at the point of sale. The positive side of this method is that it is inexpensive and easy to setup and maintain. Some examples of the periodic method would include a corner party store, a sm all corner nursery , or a small restaurant. The perpetual sys tem updates the inventory balances constantly as items are purchased and sold. This system allows m anagers to view their inventory balances in real time. Although this system is much preferred to a periodic system, managem ent must still physically count in ventory items periodically to ensure that items have been entered correctly and to determine if inventory has been damaged or stolen. Some examples of companies that utilize the perpetual system include W almart, Target, and Hom e Depot . There are also many different cost flow m ethods used to determine the value of ending inventory. The main cost flow methods used are first -in, first -out (FIFO ) and last -in, first -out (LIFO ). To provide the most accurate financial picture, management should use the m ethod tha t most reflects periodic net incom e. In other words, if the goods or products are truly sold on a FIFO basis, then the most accurate reporting of ending inventory would be to measure the ending inventory cost using the FIFO approach. There have been inst ances when a client managed earnings by manipulating the valuation of ending inventory. W hen doing this, owners and managers will try to keep net income within a certain range. For sm all business es that are privately held, there is no outside pressure from shareholders to report a high net income. Higher earnings cause the owner to pay higher taxes. On the other hand, the business owner may need to report a minimum level of net incom e to satisfy creditors , such as the bank. To manage earnings, managers wi ll often use a cost flow method that will provide the level of earnings required. Recall that the ending inventory balance is used in the equation for determining the cost of goods sold (COGS). If ending inventory is high, then the COGS will be low , which will result in a higher net incom e. The reverse is also true ; if ending inventory is low, then the COGS will be high , which will result in a higher net incom e. BBA 2201, Principles of Accounting I 3 UNIT x STUDY GUIDE Title In the following example, the COGS will be computed using an ending inventory of $25,000 and $3 5,000, respectively. W hen ending inventory was reported at a valuation of $25,000, the COGS was $40,000. W hen ending inventory was valued at $35,000, the COGS was $30,000. Managers will som etimes try to m anipulate the ending inventory balances to report net income high enough to satisfy the banker but low enough to keep their income tax liability low. Regardless of the cost flow method that is used, the company should consistently use either LIFO or FIFO from one year to the next. Also, to keep owners and managers from inflating ending inventory valuations, GAAP requires that inventory be reported at th e lower of cost or market (LCM). In other words, if a company buys dresses at the cost of $100 , and, for whatever reason, the market value of those dresses at year -end ha s dropped to $80, then the dresses would have to be measured at the lower of cost ($10 0) or market ($80). If those same dresses were to climb in value to $120 at year -end, then the company would have to value the dresses at $100. The unit assessm ent contains questions and problems related to the concepts covered in this unit. If you need extra practice working these problems, be sure to re fer to the Learning Activities (Nongraded) section of this unit. Reference W eygandt, J. J., Kimmel, P. D., & Kieso, D. E. (2018). Accounting principles (13th ed.) [VitalSource Bookshelf version]. https ://online.vitalsource.com/#/books/978119411017 Suggested Unit Resources In order to access the following resources, click the links below. A transcript and closed captioning are available once you access the video s. The following video illustrates how to compute cost of goods sold ( COGS ) and ending inventory using the first -in, first -out (FIFO) inventory assumption. Edspira. (2014, August 31). FIFO inventory method [Video] . https://c24.page/6q936c2efyc2yun8uqcmj8z6rx The following video further explains the last -in, first -out (LIFO) investor cost assumption. Examples are provide d to illustrate how LIFO is used to calculate COGS and ending inventory. Edspira. (2014, August 3 1). LIFO inventory method [Video] . https://c24.page/ydcsjggbmn65qhsz73gm2vuavr BBA 2201, Principles of Accounting I 4 UNIT x STUDY GUIDE Title W atch th e video below , which discusses the differences between the periodic and perpetual inventory methods . The video also illustrates how the different journal entries are used to record inventory purchases, sales, and period -end adjustments. Edspira. (2015, June 5). Periodic vs. perpetual inventory accounting [Video] . https://c24.page/8asdmtbsggtxm6vvtc9vme9nrb The following video provides a summary of merchandising operations and discusses recoding purchases, completing the accounting cycle, and using perpetual inventory system. Perdiscotv. (2010, August 18). Financial accounting – Chapter 5: Accounting for merchandising operations [Video] . https://c24.page/6bbysyy2m82fkn9jwsp5ajje9m Learning Activities (Nong raded) Nongraded Learning Activities are provided to aid students in their course of study. You do not have to submit them. If you have questions, contact your instructor for further guidance and information. This is an opportunity for you to express your thoug hts about the material you are studying by writing about it. Conceptual thinking is a great way to study because it gives you a chance to process what you have learned , and it increases your ability to rem ember it. In order to practice what you have learn ed in Chapter 5, please attempt the exercises below, which can be found in your textbook. DO IT! 1 | Merchandising Operations and Inventory Systems, p . 5-6 DO IT! 2 | Transactions, p . 5-10 DO IT! 3 | Sales Transactions, p. 5-14 DO IT! 4 | Closing Entries, p. 5-17 DO IT! 5 | Multiple -Step Income Statem ent, p . 5-22 You are also encouraged to complete the following end -of-chapter exercises and problems for Chapter 5 , which can be found in your textbook. Practice Multiple Choice Questions and Solutions, p p. 5-33 to 5 -34 Practice Brief Exercises, p p. 5-34 to 5 -37 Practice Problem, p p. 5-37 to 5 -38 In order to practice what you have learned in Chapter 6 , please attempt the exercises below, which can be found in your textbook. DO IT! 1 | Rules of Ownership, p . 6-6 DO IT! 2 | Cost Flow Methods, p . 6-15 DO IT! 3 | Inventory Errors, p . 6-17 DO IT! 4 | LCNRV and Inventory Turnover, p . 6-19 You are also encouraged to complete the following end -of-chapter exercises and problems for Chapter 6 , which can be found in y our textbook. Practice Multiple Choice Questions and Solutions, p p. 6-26 to 6 -28 Practice Brief Exercises, p p. 6-28 to 6 -30 Practice Problem, p p. 6-31 to 6 -32 If you have any questions or do not understand a concept, contact your professor for clarificat ion. Completing these practice exercises and problems will give you practice, which will be helpful as you complete the assignment for this unit.