2. Reporting Inventory Chapter 19

3. Review: n Perpetual system n Periodic system n Inventory is an asset until it is sold, at which time it “becomes” the expense Cost of Goods Sold.

4. Here is the problem: Beg. Invent is 10 units @ $2 Purchased 20 units @ $3 Sold 15 units. Which 15 were sold? Which 15 are still in inventory?

5. Answer: n Specific I.D. - you know which ones were sold. n Average: (10 x $2) + (20 x $3) = $80 / 30 = $2.67 per unit cost. n FIFO: the 10 units from beg. Invent. + 5 from purchase were sold. n LIFO: the 15 from the most recent purchases were sold.

6. Why so many choices? n FIFO: Gives a better Balance Sheet number - inventory reported at most recent costs. n LIFO: Gives a better Income Statement number for CGS - most recent costs.

7. Which is better, LIFO or FIFO? n Since CGS is an expense and therefore reduces net income AND taxable income, a company should choose the method which results in the highest CGS. u When prices are rising, this is LIFO. u When prices are falling, this is FIFO.

8. Why not use FIFO for “books” and LIFO for the tax return? n IRS says we can’t do that! (Too bad, it would be the “best of both worlds”.)

9. Inventory disclosure in financial statements: n Must tell F/S reader what cost flow assumption you are using. n Must report inventory at LCM. (We do this because of the conservatism principle.) u A loss of inventory market value increases CGS.

10. Sometimes we have to estimate inventory. n Two methods commonly used: u 1. Gross Profit method. u 2. Retail method.

11. Gross Profit Method: nUnUnUnUse past data to estimate the Gross Profit percentage. n“n“n“n“Work backwards” to plug in the ending inventory. (pg. 685.)

12. Retail Method: n Allows retailer to take an inventory at retail prices and then “convert” those prices to cost. u Follow page 686.

13. Cash Flow Statement n Last semester - direct method. n This chapter - indirect method. (We’ll cover only the operating activities section & later cover the other two sections.) n I will not lecture on this - follow the example in your book.

14. The End