1. CHAPTER 15
INVENTORIES 2 2

2. Merchandise inventory
Merchandise inventory consists of all goods that are
owned and held for sale in the regular course of
business, including goods in transit.
The goods in stock for sale
Merchandising company
Supermarket
All the items for sale

3. Merchandise inventory
Purchased merchandise in transit should be included in the inventory count.
The Title of the merchandise
passed to the company 3 3

4. Merchandise inventory
FOB Destination
FOB Shipping Point
Incoming goods
Outgoing goods

5. Merchandise inventory
Title belongs to Company A
Merchandise
Company A
Company B
Consigned ? ?
Merchandise inventory

6. Beginning inventory and ending inventory
Merchandise inventory
At the beginning of
the accounting period
At the end of
accounting period
The beginning inventory
The ending inventory
The beginning inventory
for the next accounting period

7. The cost of goods sold = + = – = – Formula
Purchases – Purchase Returns and Allowances – Purchase Discount + Freight In
Formula = +
Goods Available for Sale
Beginning Inventory
Net Purchases = –
Cost of Goods Sold
Goods Available for Sale
Ending Inventory = –
Gross Margin from Sales
Revenues from Sales
Cost of Goods Sold

8. The cost of goods sold
The higher the cost of ending inventory, the lower the cost of goods sold will be and the higher the gross margin.
Vice versa, the lower the ending inventory, the higher
The cost of goods sold will be and the lower the gross
margin.

9. Methods of Pricing Inventory at Cost
Specific identification method
Average-cost method
First-in, first-out method
Last-in, first-out method 3 4

10. Methods of Pricing Inventory at Cost
Suppose that the following transactions happened in August， 2006.
Date
Item
Quantity
(Units)
Unit price ($)
Total
($)
August 1
Beginning inventory 50
$2.00
100.00 6
Purchase 60
$2.20
132.00 17 80
$2.40
192.00 20
100
$2.50
250.00 27
150
$2.60
390.00
Goods Available for Sale
440
$1,064
Sale
200
Ending Inventory August 31
240 3 5

11. Specific Identification
Specific Identification Method
Specific Identification
Method
Method 1

12. Specific Identification Method
A method of tracking inventory when each item can be identified.
This method used in the purchase and sale of high-priced articles
such as automobile, heavy equipment, jewels and dear fashions. 6 6

13. Specific Identification Method
First, let’s
Look at
an example …

14. Specific Identification Method
Suppose that the sale consists of 50 units from
beginning inventory, 60 units of August 6, 80 units
of August 17 and 10 units of August 20. ?
Value of the ending inventory
Ending Inventory =
90 × $ × $2.60 = $615
Cost of Goods Sold =
$ $615 = $449

15. Specific Identification Method
Disadvantages
First, it is difficult and impractical in most cases to keep
track of the purchase and sale of individual items.
Second, the company could raise or reduce income by
choosing whether to sell either the high-cost or the
low-cost items. 6 8

16. Weighted-Average-Cost Method2 11 10

17. Weighted-Average-Cost Method
Under this method, it is assumed that the cost of inventory
is the average cost of goods on hand at the beginning of the
period plus all goods purchased during the accounting period.
Total cost of goods available for sale
The weighted-average unit cost =
Total units available for sale 6 8

18. Weighted-Average-Cost Method
Formula
Cost of Beginning Inventory +
∑(unit price per purchase × quantity per purchase)
Total cost of goods available for sale
Average Unit Cost =
Total units available for sale
Quantity of beginning inventory+
∑quantity of each purchase 12 11

19. Weighted-Average-Cost Method
Let’s go
back to the
previous
example …

20. Weighted-Average-Cost Method
( )
Average Unit Cost =
440 =
$2.42 ×
Cost of Goods Sold =
Quantity of sale
Average unit cost =
$484 =
200×$2.42
Ending Inventory =
$1,064 - $484 =
$580

21. Weighted-Average-Cost Method
Advantages
The value of ending inventory is influenced by all the prices
of beginning inventory and purchases for the period, so it
overlooks the effects of the prices increases and decreases.
Disadvantages
The method doesn't't make the recent costs gain more
Attention and doesn't't reflect the relevance between the
recent prices with the income measurement and
decision-making.

22. First-In, First-Out Method3 13 12

23. First-In, First-Out Method
Under this method, it is assumed that the first lots of
Merchandise purchased are sold firstly.
During periods of consistently rising prices ?
Net Income
INCREASE
When the prices are decreasing
Net Income ?
DECREASE 13 13

24. First-In, First-Out Method
Let’s go
back to the
previous
example
again …

25. First-In, First-Out Method
Cost of Goods Sold =
50×$ × $ × $ × 2.50 =
$( ) =
$449
Ending Inventory =
$(1064 – 449) =
$615
Net Income = –
Revenues from Sales
Cost of Goods Sold –
Operating Expenses 14 14

26. First-In, First-Out Method
Suppose the business encounters a price-decreasing period, the
result will be opposite to that of the price-increasing period.
Date
Item
Quantity
(Units)
Unit price ($)
Total
($)
August 1
Beginning inventory 50
$2.60
130.00 6
Purchase 60
$2.50
150.00 17 80
$2.40
192.00 20
100
$2.20
220.00 27
150
$2.00
300.00
Goods Available for Sale
440
$992
Sale
200
Ending Inventory August 31
240

27. First-In, First-Out Method
Cost of Goods Sold =
50 ×$ × $ × $ × $2.20 =
$494
During the period of price-decreasing,
the cost of goods sold will be higher.
$494 ＞ $449
The gross margin
LOWER
The net income

28. Last-In, First-Out Method4

29. Last-In, First-Out Method
This method is practiced under the assumption that the
items purchased last should be sold first and the cost of
ending inventory is the cost of goods purchased earliest.
The last-in, first-out method indicates that the cost of goods sold will show costs closer to the price level at the time the goods were sold when prices are increasing or decreasing.

30. Last-In, First-Out Method
Let’s still look at the previous example …

31. Last-In, First-Out Method
Cost of Goods Sold =
150×$ ×$2.50 =
$515
Ending Inventory =
$ $515 =
$549

32. Last-In, First-Out Method
Suppose the company meets with a price-decreasing period
Date
Item
Quantity
(Units)
Unit price ($)
Total
($)
August 1
Beginning inventory 50
$2.60
130.00 6
Purchase 60
$2.50
150.00 17 80
$2.40
192.00 20
100
$2.20
220.00 27
150
$2.00
300.00
Goods Available for Sale
440
$992
Sale
200
Ending Inventory August 31
240

33. Last-In, First-Out Method
Cost of Goods Sold =
150×$ ×$2.20 =
$410
Ending Inventory = $ =
$582
$515 ＞ $410
During the period of price-decreasing, the cost of goods sold will be lower.

34. Last-In, First-Out Method
During the price-increasing period
Net Income ?
DECREASE
Gross margin
During the price-increasing period
Net Income ?
INCREASE
Gross margin

35. Comparison of the four methods
Suppose the revenue from sales is the same data, $1,000.
Methods of inventory pricing
Cost of goods sold
gross margin
The specific identification method
$449
$551
The weighted-average-cost method
$484
$516
The first-in, first-out method
The last-in, first-out method
$515
$485

36. Comparison of the four methods
Based
The accrual cost
Specific identification method on
Average-cost method
The assumption that
cost is flowing,
not the physical
movement of goods
Based
First-in, first-out method on
Last-in, first-out method

37. Comparison of the four methods
First-in, first-out method
During the period of price increasing,
Beneficial to yielding higher gross margin and net income.
Last-in, first-out method
During the period of price decreasing,
Incur higher gross margin and net income than other methods.

38. WE ARE SAILING RIGHT ALONG!!