© 2014 Cengage Learning. All Rights Reserved. Learning Objectives LO2 Calculate the cost of merchandise inventory using the first-in, first-out (FIFO) inventory costing method. LO3 Calculate the cost of merchandise inventory using the last-in, first-out (LIFO) inventory costing method. LO4 Calculate the cost of merchandise inventory using the weighted-average inventory costing method. © 2014 Cengage Learning. All Rights Reserved.

First-In, First-Out Inventory Costing Method Lesson 20-2 First-In, First-Out Inventory Costing Method LO2 Using the price of merchandise purchased first to calculate the cost of merchandise sold first is called the first-in, first-out inventory costing method. The first-in, first-out method is frequently abbreviated as FIFO.

First-In, First-Out Inventory Costing Method Lesson 20-2 First-In, First-Out Inventory Costing Method LO2 3 Units Needed to Equal the Total Units on Hand 4 Unit Price Times FIFO Units Purchase Dates Units Purchased Unit Price Total Cost FIFO Units on Hand FIFO Cost January 1, beginning inventory 10 $20.80 $ 208.00 February 16, purchases 6 21.60 129.60 April 17, purchases 14 22.40 313.60 September 5, purchases 12 23.40 280.80 $234.00 November 22, purchases 8 23.50 188.00 50 $ 1,120.00 18 $422.00 2 Units from the Most Recent Purchase 1 Total Units on Hand 5 Total FIFO Cost

Last-In, First-Out Inventory Costing Method Lesson 20-2 Last-In, First-Out Inventory Costing Method LO3 Using the price of merchandise purchased last to calculate the cost of merchandise sold first is called the last-in, first-out inventory costing method. The last-in, first-out method is frequently abbreviated as LIFO.

Last-In, First-Out Inventory Costing Method Lesson 20-2 Last-In, First-Out Inventory Costing Method LO3 2 Beginning Inventory Units 5 Unit Price Times LIFO Units Purchase Dates Units Purchased Unit Price Total Cost LIFO Units on Hand LIFO Cost January 1, beginning inventory 10 $20.80 $ 208.00 $208.00 February 16, purchases 6 21.60 129.60 April 17, purchases 14 22.40 313.60 2 44.80 September 5, purchases 12 23.40 280.80 November 22, purchases 8 23.50 188.00 50 $ 1,120.00 18 $382.40 3 Units from the Earliest Purchase Units Needed to Equal the Total Units on Hand 4 1 Total Units on Hand Total LIFO Cost 6

Weighted-Average Inventory Costing Method Lesson 20-2 Weighted-Average Inventory Costing Method LO4 Using the average cost of beginning inventory plus merchandise purchased during a fiscal period to calculate the cost of merchandise sold is called the weighted-average inventory costing method. The average unit price of the total inventory available is calculated. This average unit price is used to calculate both ending inventory and cost of merchandise sold. The average cost of merchandise is then charged against current revenue.

Weighted-Average Inventory Costing Method Lesson 20-2 Weighted-Average Inventory Costing Method LO4 Purchases Total Cost Purchase Dates Units Unit Price January 1, beginning inventory 10 $20.80 $ 208.00 February 16, purchases 6 21.60 129.60 April 17, purchases 14 22.40 313.60 September 5, purchases 12 23.40 280.80 November 22, purchases 8 23.50 188.00 50 $ 1,120.00 Total Cost of Inventory Available 1 2 Weighted-Average Price per Unit Total of Beginning Inventory and Purchases ÷ Total Units = Weighted-Average Price per Unit $1,120.00 50 $22.40 Units in Ending Inventory × Cost of 18 $403.20 3 Cost of Ending Inventory

Calculating the Cost of Merchandise Sold Lesson 20-2 Calculating the Cost of Merchandise Sold LO4 Cost of Merchandise Available for Sale − FIFO Cost of Ending Inventory = Cost of Merchandise Sold $1,120.00 − $422.00 = $698.00

Comparison of Inventory Methods Lesson 20-2 Comparison of Inventory Methods LO4 FIFO LIFO Weighted- Average Cost of merchandise sold: Merchandise inventory, Jan. 1…………........... $208.00 Net purchases .............................................. 912 Merchandise available for sale .................... $1,120.00 Less ending inventory, Dec. 31 .................... 422 382.4 403.2 Cost of merchandise sold............................. $698.00 $737.60 $716.80 In a period of rising prices: Relative cost of ending inventory highest lowest intermediate Relative cost of merchandise sold

Lower of Cost or Market Inventory Costing Method Lesson 20-2 Lower of Cost or Market Inventory Costing Method LO4 The price that must be paid to replace an asset is called the market value. Using the lower of cost or market price to calculate the cost of ending merchandise inventory is called the lower of cost or market inventory costing method (LCM). In this context, cost refers to the actual amount paid for the unit of inventory on hand. Market refers to the amount that must be paid to replace the unit of inventory.

Lower of Cost or Market Inventory Costing Method Lesson 20-2 Lower of Cost or Market Inventory Costing Method LO4 Lower of Cost or Market Inventory Costing Method Costing Method Cost Market Value (18 units × $22.40 current market price) Lower of Cost or Market FIFO $422.00 $403.20 LIFO 382.40 403.20 Weighted-average Calculate the cost Calculate the market price Determine the smaller number to use as the lower of cost or market

Lesson 20-2 Audit Your Understanding 1. On what idea is the FIFO method based? ANSWER The price of merchandise purchased first should be charged against current revenue.

Lesson 20-2 Audit Your Understanding 2. When the LIFO method is used, at what price is each item in ending merchandise inventory recorded? ANSWER The prices of merchandise purchased last are used in recording prices for each item on the inventory record.

Lesson 20-2 Audit Your Understanding 3. In a period of rising prices, which inventory costing method gives the lowest cost of merchandise sold? . ANSWER FIFO

Lesson 20-2 Audit Your Understanding 4. Why should a business select one inventory costing method and use that same method continuously for each fiscal period? ANSWER Using the same inventory costing method for all fiscal periods provides financial statements that can be compared with other fiscal period statements. If a business changes inventory cost methods, part of the difference in gross profit and net income may be caused by the change in methods.