1. Chapter 13

2.  Chapter 13: Focus inventory of a trading entity  What does the term accrual mean?  The transaction will be recorded when the definition and recognition criteria are satisfied and not when the cash flow takes place.  What is inventory?  An Asset  Held for sale in the ordinary course of business.  What types of systems do you get to account for inventory?  The perpetual inventory system and,  The periodic inventory system

3.  An Asset is:  A resource?  The entity can gain access to future economic benefits as the inventory can be sold which will generate sales revenue.  Controlled by the entity?  Third party access is restricted as the inventory is purchased in the name of the entity  Right of ownership passed to the entity when the inventory was delivered  From which future economic benefits are expected to flow to the entity?  Future economic benefits will flow to the entity when the inventory is sold which will generate sales revenue.

4. Initial measurement 4 Inventories are initially measured at cost Cost of inventories comprise: Purchase price Other purchase costs - other costs incurred in bringing the inventories to its present location Certain costs are specifically excluded (Storage Costs, Finance costs)

5. Initial measurement 5 Purchase price Excluding VAT if the purchaser and seller are both registered VAT vendors Less discounts (trade, cash and settlement)

6. Initial measurement 6 Other purchase costs include: Import duties (no VAT implications) Delivery costs Handling costs Other direct costs of acquisition Only if these costs are the entity’s responsibility

7. Initial measurement 7 Cash price = If cash purchase  invoice price If credit purchase  cash price equivalent on acquisition date = invoice price The above is true for all of the previously mentioned cost items

8. Initial measurement 8 Cash price equivalent… Normal credit terms (trade credit): No interest charged so it’s simply the full amount of the payment to be made Beyond normal credit terms (supplier’s loan): Interest accrues so it’s the present value of the future payments i.e. total payments less interest Interest accrued is  not part of the cost of inventories but is recognised as interest expense.

9.  What are the two types of inventory systems used to account for inventory?  Periodic inventory system and perpetual inventory system.  What does an inventory accounting system mean?  Methods used to track the quantity of goods on hand

10. Recognition 10 Costs to purchase inventory are initially recognised as: An asset under perpetual An expense under periodic – Later reclassify as an asset at year end if there are units on hand Dates of recognition

11.  What is the perpetual inventory system?  Provides correct detail about the status of inventory on an up to date basis. inventory account accrual basis  Any purchase or sale of inventory will affect the inventory account on an accrual basis.  Keeps continual track of inventory balances.  Example: Trade inventory purchased:  Dr Trade Inventory  Dr Vat Input- (Is the selling entity a registered Vat Vendor?)  Cr Bank/ Creditor – (Did you purchase for cash or on credit?)

12.  Example: Trade inventory sold:  Journal 1  Dr Bank/ Trade receivable (SFP)  Cr Sales (P/L)  Journal 2  Dr Cost of sales (P/L)  Cr Trade inventory (SFP)  Inventory is derecognised as the definition of an Asset is no longer satisfied.

13.  Example: Returns by the customer:  Journal 1  Dr Returns in (P/L)  Dr VAT Output  Cr Trade receivables (SFP)

14.  Example: Returns by the customer (continued):  Journal 2  DR Trade Inventory (SFP)  Cr Cost of sales (P/L)

15.  Example: Returns to suppliers  Dr Trade Payables/Bank (SFP)  Cr VAT input  Cr Trade Inventory (SFP)

16. Inventory systems Inventory balance at year end: 16 Physical stock count at Y/E will give actual number of inventory items on hand at Y/E Compare the number of units physically counted to the number of units recorded Process journal to correct (Next Lecture)

17. in expense accounts for the relevant year  The system accumulates the purchase costs of trade inventories, as well as other costs incurred in bringing the trade inventories to its present condition and location in expense accounts for the relevant year  These expense accounts are known as temporary accounts  What is a temporary account?  A temporary account is a general ledger accountgeneral ledger account  begins each reporting period with a zero balance.  At the end of the accounting year any balance in the account will be transferred to another account. This is referred to as closing the account

18.  Example of expense accounts  Purchase price Purchases expense account  Import duties Import duties expense account  Delivery costs Delivery costs expense account  Legal costs Legal costs expense account

19.  How long is one reporting period?  Reporting Period = 12 Months  At the end of the reporting period what happens to the temporary expense accounts?  These accounts are closed off to Cost of sales account.  Ie:  Dr Cost of Sales (P/L)  Cr Relevant expense account (purchases, import duties, delivery costs, legal costs etc.)  What does the above journal imply in respect of sales?  All inventory purchased in the current year has been sold in the current year.  This can not always be the case!

20. Example – Question A Entity purchased inventory with a total purchase price of R12 000 from a foreign supplier, import duties associated with the purchase of such inventory amounted to R8000. All costs have been settled in cash. A entity makes use of the periodic inventory system Required: Provide all the journals entries for the above transaction

21.  Example – Solution  During the year  Dr Purchases (P/L) 12 000  Dr Import duties (P/L) 8 000  Cr Bank (SFP) 20 000  Closing journal  Dr Cost of sales 20 000  Cr Purchases 12 000  Cr Import duties 8 000

22.  Ito Periodic inventory system stock counts are performed to determine the exact amount of inventory on hand (NOT SOLD) at year end.  Inventory on hand meets the definition of an Asset and should be recognised as an Asset and not an expense (Link to slide 3)  Back to the example

23. Example – Question A Entity purchased inventory with a total purchase price of R12 000 from a foreign supplier, import duties associated with the purchase of such inventory amounted to R8000. All costs have been settled in cash. A entity makes use of the periodic inventory system A Entity preformed a physical stock count, the value of inventory on hand was R3000 Required: Provide all the journals entries for the above transaction

24. Inventory systems Inventory balance at year end: 24 Physical stock count at Y/E will give actual number of inventory items on hand at Y/E

25.  Example – Solution  During the year  Dr Purchases (P/L) 12 000  Dr Import duties (P/L) 8 000  Cr Bank (SFP) 20 000  Closing journal  Dr Cost of sales 20 000  Cr Purchases 12 000  Cr Import duties 8 000 Inventory on hand  Trading inventory(SFP) 3000  Cost of sales (P/L) 3000 THINK ASSET DEFINITION

26.  Returns to a supplier (going OUT)  Dr Payable (SFP)  Cr VAT Input (SFP)  Cr Returns OUT (P/L)- Temporary Account  Closing off Journal at the end of the reporting period.  Dr Returns out (P/L)  Cr Purchases (P/L)

27.  Returns from a Customer (Coming INTO the business)  Dr Returns in (P/L)- Temporary Account  Dr Vat Output (SFP)  Cr Receivable (SFP)  Closing off Journal at the end of the reporting period.  Dr Sales (P/L)  Cr Returns in (P/L)

28. Inventory systems 28 Differences: PerpetualPeriodic Purchase inventory Dr Inventory Dr Purchases Inventory value Up to date Not up to date Stock count To verify inventory balance To determine inventory balance Inventory shortages Will identify Will not identify