Principles of Accounting: Chapter Eight

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Chapter 8 identifies the appropriate items to include inventory, including the treatment of goods in transit and consigned goods. Further, a company must allocate total cost of goods available for sale (beginning inventory plus purchases) between ending inventory and cost of goods sold. This requires the adoption of a costing technique. Methods include first-in, first-out (FIFO), last-in, first-out (LIFO), and weighted average. These techniques attribute cost to units based on the assumed cost flow pattern, and each is illustrated in the chapter. Inventory costing can be applied on either a periodic or perpetual basis.

In addition to assigning costs to units, it is also necessary to assess whether inventory value is impaired. This requires implementation of lower-of-cost-or-market testing, which is a two-step process to identify "market" and then compare that value to cost. The chapter continues with an examination of the gross profit technique for preparing inventory estimates, and the retail method that is quite useful if specific conditions are met. The chapter concludes by examining inventory management, the inventory turnover ratio, and the effects of errors.

Exercises

To aid in your understanding of this chapter, exercises with solutions are available for free download at Bookboon.com. You will find these exercises very helpful in providing models and guidelines for solving all of the problems at principlesofaccounting.com.

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Problems
Goals Achievement
Fill in the Blanks
Multiple Choice
Objectives
Key Terms

Goals Achievement: Chapter Eight

Goods in transit should never be included in the buyer's inventory.

true Incorrect or falseCorrect

Goods on consignment should be included in the accounts of the:

consignee Incorrect or consignorCorrect

Under which inventory cost-flow assumption would the most recent cost be assigned to the Inventory account on the balance sheet?

LIFO Incorrect or FIFOCorrect

Under the weighted-average inventory method, the average unit cost of inventory is determined by dividing the sum of the individual purchase prices by the number of purchases which occurred during the year.

right Incorrect or wrongCorrect

The specific identification method would be used for inventory which involves many similar homogeneous items.

true Incorrect or falseCorrect

During a period of rising prices, which inventory method would tend to minimize tax liability?

FIFO Incorrect or LIFOCorrect

During a time of rising prices, the LIFO technique causes inventory on the balance sheet to bear what relationship to its fair value?

greater than Incorrect or less thanCorrect

In a perpetual inventory system, which account is not utilized?

Purchases Correct or Cost of Goods SoldIncorrect

Which inventory method produces the same results under both the perpetual and periodic inventory systems?

FIFO Correct or LIFOIncorrect

In determining inventory's lower-of-cost-or-market valuation, market is defined as:

sales price Incorrect or replacement costCorrect

The lower-of-cost-or-market rule can be applied item-by-item or to the aggregate inventory.

true Correct or falseIncorrect

Recoveries of value for inventory previously reduced by lower-of-cost-or-market rule adjustments should be recognized.

yes Incorrect or noCorrect

Under the gross profit method, ending inventory is determined by multiplying net purchases by the estimated gross profit percentage.

true Incorrect or falseCorrect

Under the retail inventory method, the estimated ending inventory can be determined by multiplying the cost-to-retail percentage times the:

retail value of goods available for sale Incorrect or estimated ending inventory at retailCorrect

The denominator of the inventory turnover ratio calculation includes:

ending inventory Incorrect or average inventoryCorrect

Overstating ending inventory would have what effect on income for that year?

overstate Correct or understate Incorrect

The impact of inventory errors on income tends to be counter-balanced by offsetting errors in the following accounting period.

right Correct or wrongIncorrect Incorrect