Chapter 6 test bank PDF

Preview

Summary

Reporting and Analyzing Inventory...

Description

CHAPTER 6 REPORTING AND ANALYZING INVENTORY SUMMARY OF QUESTIONS BY STUDY OBJECTIVES Item

SO

Item

SO Item

1. 2. 3. 4. 5. 6.

1 1 1 1 1 1

7. 8. 9. 10. 11. 12.

1 1 1 2 2 2

13. 14. 15. 16. 17. 18.

43. 44. 45. 46. 47. 48. 49. 50. 51. 52. 53.

1 1 1 1 1 1 1 2 2 2 2

54. 55. 56. 57. 58. 59. 60. 61. 62. 63. 64.

2 2 2 2 2 2 2 2 2 2 2

65. 66. 67. 68. 69. 70. 71. 72. 73. 74. 75.

113. 114. 115.

1 1,4 2

116. 117. 118.

2 2 2

119. 120. 121.

SO

Item

SO

Item

True-False Statements 2 19. 2 25. 2 20. 2 26. 2 21. 2 27. 2 22. 2 28. 2 23. 2 29. 2 24. 3 30. Multiple Choice Questions 2 76. 2 87. 2 77. 2 88. 2 78. 2 89. 2 79. 3 90. 2 80. 3 91. 2 81. 3 92. 2 82. 3 93. 2 83. 3 94. 2 84. 3 95. 2 85. 3 96. 2 86. 3 97. Exercises 2,3 122. 4 125. 3 123. 4 126. 4 124. 5 127.

SO

Item

SO

31. 32. 33. 34. 35. 36.

4 5 5 5 5 5

37. 38. *39. *40. *41. *42.

5 5 6 6 6 6

3 3 3 3 3 4 4 4 4 5 5

98. 99. 100. 101. 102. 103. 104. 105. 106. 107. *108.

5 5 5 5 5 5 5 5 5 5 6

*109. *110. *111. *112.

6 6 6 6

5 5 5

*128. *129. *130.

6 6 6

*131.

6

133.

5

138.

1

1-5 1

134.

2,3

135.

Short-Answer Essay 2 136. 1 137.

*This topic is dealt with in an Appendix to the chapter.

SO

3 3 3 4 4 4

Matching 132.

Item

T e s tBa nkf orFi n a nc i a l Ac c o un t i n g:T o o l sf o rBu s i n e s sDe c i s i o nMa k i ng, 5 t hCa na di a nEd i t i o n

6-2

SUMMARY OF STUDY OBJECTIVES BY QUESTION TYPE Item

Type

Item

Type

Item

1. 2. 3. 4.

TF TF TF TF

5. 6. 7. 8.

TF TF TF TF

9. 43. 44. 45.

10. 11. 12. 13. 14. 15. 16. 17.

TF TF TF TF TF TF TF TF

18. 19. 20. 21. 22. 23. 50. 51.

TF TF TF TF TF TF MC MC

52. 53. 54. 55. 56. 57. 58. 59.

24. 25. 26. 27. 79.

TF TF TF TF MC

80. 81. 82. 83. 84.

MC MC MC MC MC

85. 86. 87. 88. 89.

28. 29. 30. 31.

TF TF TF TF

92. 93. 94. 95.

MC MC MC MC

121. 122. 123.

32. 33. 34. 35.

TF TF TF TF

36. 37. 38. 96.

TF TF TF MC

97. 98. 99. 100.

39. 40. 41.

TF TF TF

42. 108. 109.

TF MC MC

110. 111. 112.

Note: TF = True-False MC = Multiple Choice

Type Item Type Item Type Study Objective 1 TF 46. MC 113. EX MC 47. MC 114. EX MC 48. MC 132. M MC 49. MC 133. SAE Study Objective 2 MC 60. MC 68. MC MC 61. MC 69. MC MC 62. MC 70. MC MC 63. MC 71. MC MC 64. MC 72. MC MC 65. MC 73. MC MC 66. MC 74. MC MC 67. MC 75. MC Study Objective 3 MC 90. MC 134. SAE MC 91. MC MC 119. EX MC 120. EX MC 132. M Study Objective 4 EX 132. M EX EX Study Objective 5 MC 101. MC 105. MC 102. MC 106. MC 103. MC 107. MC 104. MC 124. *Study Objective 6 MC 128. EX 131. MC 129. EX MC 130. EX

M = Matching EX = Exercise

*This topic is dealt with in an Appendix to the chapter.

MC MC MC EX

Item

Type

Item

Type

136. 138.

SAE SAE

76. 77. 78. 115. 116. 117. 118. 119.

MC MC MC EX EX EX EX EX

132. 134. 135.

M SAE SAE

125. 126. 127. 132.

EX EX EX M

137.

SAE

EX

SAE = Short-Answer Essay

6-3

Reporting and Analyzing Inventory

CHAPTER STUDY OBJECTIVES 1.

Describe the steps in determining inventory quantities. The steps are (1) taking a physical inventory of goods on hand and (2) determining the ownership of goods in transit, on consignment, and in similar situations.

2.

Apply the methods of cost determination – specific identification, FIFO, and average under a perpetual inventory system. Costs are allocated to the cost of goods sold account each time that a sale occurs in a perpetual inventory system. The cost is determined by specific identification or by one of two cost formulas – FIFO (first-in, first-out) and average. Specific identification is used for goods that are not ordinarily interchangeable. This method tracks the actual physical flow of goods, allocating the exact cost of each merchandise item to cost of goods sold and ending inventory. The FIFO cost formula assumes a first-in, first-out cost flow for sales. Cost of goods sold consists of the cost of the earliest goods purchased. Ending inventory is determined by allocating the cost of the most recent goods purchased to the units on hand. The average cost formula is used for goods that are homogenous or non-distinguishable. Under average, a new weighted (moving) average unit cost is calculated after each purchase and applied to the number of units sold and the number remaining in ending inventory.

3.

Explain the financial statement effects of the inventory cost determination methods. Specific identification results in the best match of cost and revenues on the income statement. When prices are rising, the average cost formula results in a higher cost of goods sold and lower profit than FIFO. Average therefore results in a better allocation on the income statement of more current (recent) costs with current revenues than does FIFO. In the statement of financial position, FIFO is considered to be better because it results in an ending inventory that is closest to current (replacement) value. All three methods result in the same cash flow before income tax.

4.

Identify the effects of inventory errors on the financial statements. Ignoring the effects of income tax, an error in beginning inventory will have a reverse effect on profit in the current year (e.g., an overstatement of inventory results in an understatement of profit). An error in ending inventory will have a similar effect on profit (e.g., an overstatement of inventory results in an overstatement of profit). If ending inventory errors are not corrected in the following fiscal year, their effect on profit for that year is reversed, and total profit for the two years will be correct. In the statement of financial position, ending inventory errors will have the same effects on total assets and total shareholders’ equity (e.g., an overstatement of inventory results in an overstatement of assets and shareholders’ equity), and no effect on liabilities (ignoring income tax).

5.

Demonstrate the presentation and analysis of inventory. Inventory is valued at the lower of its cost and net realizable value, which results in the recording of an increase in cost of goods sold and reduction in inventory when the net realizable value is less than cost. The write-down is

6-4

T e s tBa nkf o rF i n a n c i a l Ac c o unt i n g:T o ol sf o rBu s i ne s sDe c i s i on Ma k i n g, 5 t hCa na di a nEd i t i o n reversed if the net realizable value of the inventory increases, but the value of the inventory can never be recorded above the original cost. Ending inventory is reported as a current asset on the statement of financial position at the lower of cost and net realizable value. Cost of goods sold is reported as an expense on the income statement. The inventory turnover ratio is a measure of liquidity. It is calculated by dividing the cost of goods sold by average inventory. It can be converted to days in inventory by dividing 365 days by the inventory turnover ratio. In general, a higher inventory turnover and lower days in inventory ratio is desired.

*6.

Apply the inventory cost formulas – FIFO and average - under a periodic inventory system (Appendix 6A). Under the FIFO cost formula, the cost of the most recent goods purchased is allocated to ending inventory. Cost of goods sold is calculated by deducting ending inventory from the cost of goods available for sale (or proven by applying the cost of the earliest goods on hand to determine the cost of goods sold). Under the average cost formula, the total cost of goods available for sale during the period is divided by the units available for sale during the same period to calculate a weighted average cost per unit. This unit cost is then applied to the number of units remaining in inventory to calculate the ending inventory. Cost of goods sold is calculated by deducting ending inventory from the cost of goods available for sale (or proven by applying the unit cost to the units sold to determine the cost of goods sold). Each of these cost formulas is applied in the same cost flow order as in a perpetual inventory system. The main difference is that in a perpetual inventory system, the cost formula is applied at the date of each sale to determine the cost of goods sold. In a periodic inventory system, the cost formula is applied only at the end of the period.

6-5

Reporting and Analyzing Inventory

TRUE-FALSE STATEMENTS 1.

A system of internal control is not needed when a company regularly takes a physical inventory.

2.

An inventory count should be done by the employees who keep track of the stock.

3.

Goods in transit shipped FOB shipping point should be included in the buyer’s ending inventory.

4.

Goods that have been purchased FOB destination, but are in transit, should be excluded from the buyer’s ending inventory.

5.

Under a perpetual inventory system, both the sales amount and the cost of goods sold amount are recorded when each item of merchandise is sold.

6.

Under a perpetual inventory system, the accounting records always show the quantity of inventory that is on hand.

7.

Consigned goods are held for sale by one party although ownership of the goods is retained by another party.

8.

It is not possible to determine inventory losses due to theft in a periodic inventory system.

9.

Once goods leave the premises of the seller, they should never be added to the seller’s physical inventory count.

10.

The specific identification method of costing inventories is often used for goods that are interchangeable.

11.

In order to remove the cost of items sold from inventory, a unit cost must be determined.

12.

When using the perpetual system, the average cost formula relies on a simple average calculation.

13.

If prices never changed, there would be no need for alternative inventory cost formulas.

14.

Inventory cost formulas such as FIFO and average deal more with the flow of costs than with the flow of goods.

6-6

T e s tBa nkf o rF i n a n c i a l Ac c o unt i n g:T o ol sf o rBu s i ne s sDe c i s i on Ma k i n g, 5 t hCa na di a nEd i t i o n

15.

The first-in, first-out (FIFO) inventory cost formula results in an ending inventory valued at the most recent cost.

16.

The physical inventory count determines the number of units on hand.

17.

The specific identification method is desirable when a company sells a large number of lowunit-cost items.

18.

If a company has no beginning inventory and the unit cost of inventory items does not change during the year, the unit cost assigned to the cost of goods sold will be the same under FIFO and average cost formulas.

19.

A company may use more than one inventory cost determination method if it has different types of inventory.

20.

The cost formula a company chooses should correspond as closely as possible to the actual physical flow of goods.

21.

The FIFO inventory cost formula agrees closely to the actual physical movement of goods in most businesses.

22.

In periods of falling prices, FIFO will result in a higher ending inventory valuation than the average cost formula.

23.

In periods of falling prices, FIFO will result in a higher cost of goods sold than the average cost formula.

24.

A change in the method of cost determination for inventory must be disclosed in the financial statements.

25.

The method of inventory cost determination that best matches cost and revenues is FIFO.

26.

Approximating the physical flow of inventory is not important when selecting an inventory cost formula.

27.

All three methods of inventory cost determination will produce the same cumulative cost of goods sold over the life cycle of the business.

6-7

Reporting and Analyzing Inventory

28.

An error in the ending inventory of the current period will have a similar but inverse effect on profit of the next accounting period.

29.

An error that overstates the ending inventory will cause profit for the period to be understated.

30.

An error that understates the ending inventory will cause assets to be understated.

31.

An error that understates the ending inventory will cause the cost of goods sold for the period to be understated.

32.

When the value of inventory is lower than its cost, the inventory is written down to its net realizable value.

33.

If net realizable value of the inventory is lower than its cost, the total assets on the statement of financial position and profit on the income statement will be reduced.

34.

Inventory that originally cost $100 had been written down to its net realizable value (NRV) of $75. Subsequently, the NRV of the inventory recovered to equal its cost of $100. In this situation, the amount of the $25 ($100 - $75) prior write-down in value should be reversed.

35.

An inventory write down from cost to net realizable value should not be made in the period in which the price decline occurs.

36.

The lower of cost and net realizable value should be applied to the total inventory, rather than to individual inventory items.

37.

A low inventory turnover ratio could mean a company is at risk of experiencing inventory shortages.

38.

A high inventory turnover ratio indicates that minimal funds are tied up in inventory.

*39. In the average cost formula used in a periodic inventory system, the same weighted average cost per unit is used to calculate all of the goods sold during the period. *40. When the average cost formula is applied in a periodic inventory system, the sale of goods during the year will change the unit cost used for calculating ending inventory. *41. When the average cost formula is applied in a periodic inventory system, a moving average cost per unit is calculated after each purchase.

6-8

T e s tBa nkf o rF i n a n c i a l Ac c o unt i n g:T o ol sf o rBu s i ne s sDe c i s i on Ma k i n g, 5 t hCa na di a nEd i t i o n

*42. The results under FIFO in a perpetual inventory system are the same as in a periodic inventory system.

Reporting and Analyzing Inventory

6-9

ANSWERS TO TRUE-FALSE STATEMENTS Item 1. 2. 3. 4. 5. 6. 7.

Ans. F F T T T T T

Item 8. 9. 10. 11. 12. 13. 14.

Ans. T F F T F T T

Item 15. 16. 17. 18. 19. 20. 21.

Ans. T T F T T T T

Item 22. 23. 24. 25. 26. 27. 28.

Ans. F T T F F T T

Item 29. 30. 31. 32. 33. 34. 35.

Ans. F T F T T T F

Item 36. 37. 38. *39. *40. *41. *42.

Ans. F F T T F F T

6 - 10

T e s tBa nkf o rF i n a n c i a l Ac c o unt i n g:T o ol sf o rBu s i ne s sDe c i s i on Ma k i n g, 5 t hCa na di a nEd i t i o n

MULTIPLE CHOICE QUESTIONS 43.

The factor which determines whether or not goods should be included in a physical count of inventory is (a) physical possession. (b) ownership. (c) management's judgement. (d) whether or not the purchase price has been paid.

44.

If goods in transit are shipped FOB destination, (a) the seller has legal title to the goods until they are delivered. (b) the buyer has legal title to the goods during transit. (c) the transportation company has legal title to the goods while the goods are in transit. (d) no one has legal title to the goods until they are delivered.

45.

To ensure the accuracy of the inventory summary sheets during a physical inventory count, (a) the employee is required to count all items twice for the sake of verification. (b) the items counted are compared to the inventory account balance. (c) a second employee or auditor counts the inventory and compares the result to the count made by the first employee. (d) prenumbered inventory tags need not be used.

46.

To accurately determine inventory quantities, a company must (a) use the perpetual inventory system. (b) employ an independent company to conduct inventory counts. (c) rely on the warehouse records. (d) take a physical inventory.

47.

Which of the following should not be included in an inventory count? (a) Goods taken home by a customer on approval (b) Purchased goods shipped FOB shipping point still in transit from a supplier (c) Consigned goods (d) Consigned goods and goods taken home by a customer on approval

48.

Westcom Corporation's goods in transit at December 31 include (1) sales made FOB destination, (2) sales made FOB shipping point, (3) purchases made FOB destination, and (4) purchases made FOB shipping point. Which items should be included in Westcom's inventory at December 31? (a) (2) and (3) (b) (1) and (4) (c) (1) and (3) (d) (2) and (4)

49.

Goods held on consignment are (a) never owned by the consignee.

Reporting and Analyzing Inventory

6 - 11

(b) included in the consignee’s ending inventory. (c) kept for sale on the premises of the consignor. (d) not included in anyone’s ending inventory. 50.

A company just starting in business purchased three merchandise inventory items at the following prices. March 2, $75; March 7, $80; and March 15, $90. If the company sold two units for $125 each on March 10 and March 20, and used the FIFO cost formula in a perpetual inventory system, the gross profit for March would be (a) $100. (b) $95. (c) $90. (d) $75.

51.

Inventory cost formulas make assumptions about the flow of (a) costs. (b) goods. (c) resale prices. (d) fair values.

52.

A company just starting a business purchased three inventory items at the following prices: March 2, $75; March 7, $80; and March 15, $90. If the company sold one unit for $115 on March 10 and one unit for $125 on March 20 and uses the average cost formula in a perpetual inventory system, what is the cost of ending inventory? (a) $81.67 (b) $83.75 (c) $90.00 (d) $125.00

Use the following information for questions 53–56. A company just starting business made the following...