Term
| A merchandising operation earns revenue by selling products called ... |
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Definition
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Term
| Merchandising have a few different balance sheet and income statement accounts, what are they? |
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Definition
balance sheet: inventory or merchandise inventory
income statement: revenue: sales revenue or sales, expense: cost of goods sold |
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Term
| What is a merchandise companies Operating Cycle? |
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Definition
| The length of time that is required for a business to purchase inventory, sell the inventory and collect the cash from the sale so that the cycle can begin again. |
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Term
| Explain the periodic system of inventory management. |
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Definition
| Used by businesses that sell relatively inexpensive goods and/or cannot afford a computerized inventory systems. Inventory is counted at regular intervals but is not maintained in between. Less popular as more businesses keep inventory records on computers. |
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Term
| Explain perpetual inventory management systems. |
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Definition
| Maintains a real-time running count of the amount of inventory on hand. Physical count happens at least once a year. Integrated inventory system. Most companies use this now because technology advances. |
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Term
| What is a purchase invoice? |
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Definition
| the suppliers request for payment from the purchaser. |
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Term
| How is the purchase of inventory recorded? |
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Definition
| Increase to assets (inventory) and an increase to liabilities (accounts payable) |
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Term
| Explain how purchase discounts work. |
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Definition
| Granted by the seller for early payment of an invoice. Terms of payment specify how much the discount is and when the invoice must be paid. The discount is recorded if the payment is made within the discount period. |
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Term
| How would a discount term of 3/15 n/30 work? |
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Definition
| The purchaser that a 3% discount is paid if the invoice is paid within 15 days, or the full amount of invoice is due in 30 days. |
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Term
| What is merchandise returns & allowances? |
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Definition
| Merchandise returned to the seller and allowances granted to the purchaser for damaged goods. Reduces accounts payable and reduces the cost of inventory. |
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Term
| How do you record returns & allowances |
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Definition
| accounts payable decreases and inventory decreases |
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Term
| How are shipping costs accounted for? |
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Definition
| Transportation costs are part of the cost of inventory. |
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Term
| total cost of inventory is equal to |
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Definition
| all fo the costs to acquire the inventory and get it ready for sale |
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Term
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Definition
| Free on board or freight on board |
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Term
| What are the terms of FOB shipping point? |
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Definition
| indicates that the buyer bears the shipping costs. Title passes to the buyer upon shipment. This is the most common method. |
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Term
| What are the terms of FOB destination? |
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Definition
| indicates that the seller bears the shipping costs. Title passes to the buyer when the goods reach the destination. |
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Term
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Definition
| Transportation cost on purchased goods. Debit inventory |
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Term
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Definition
| Transportation cost on goods sold. Debit an expense (delivery expense) |
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Term
| HOw are freight in transportation costs accounted for? |
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Definition
| freight in is added to the cost of the inventory and are not subject to the purchase discount. Inventory is increased and cash is decreased. |
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Term
| How is Freight Out accounted for? |
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Definition
| Freight out on inventory sold is not added to the inventory but is considered an operating expense. |
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Term
| the sale of inventory requires two entries, what are they? |
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Definition
| revenue entry and COGS entry |
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Term
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Definition
| amount earned from selling inventory. Revenue account |
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Term
| Cost of Goods sold: define. |
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Definition
| Cost of inventory that has been sold to customers. Expense account |
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Term
| The sale of inventory requires two entries. what are they? |
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Definition
| the entry to update the inventory and record the cost of the goods sold. Teh entry to record the sale and cash receipts. |
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Term
| sales returns are recorded in what account? |
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Definition
| the contra account, sales returns and allowances. discounts are not taken on returned merchandise. |
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Term
| What is the reason for purchase discounts? |
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Definition
| Incentive granted to the customer to encourage prompt payment. |
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Term
| Sales discounts are recorded ... |
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Definition
| in the contra account, Sales Discounts, when the accounts receivable is collected. |
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Term
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Definition
| sales revenue - sales discounts - sales returns and allowances |
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Term
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Definition
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Term
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Definition
| also called sales profit or gross operation profit is the difference between revenue and the cost of making a product or providing a service, before deducting overheads, payroll, taxation, and interest payments. |
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Term
| If physical account of inventory is different from the amount on the books is ... |
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Definition
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Term
| how is inventory shrinkage recorded? |
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Definition
| debit cost of goods sold, credit inventory |
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Term
| How do you adjust the ledger balance of inventory to the physical count? |
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Definition
| Any difference between the phyisical count and the ledger balance is adjusted through Cost of Goods Sold and Inventory. This reduces inventory to its physical count or to increase inventory to its physical count |
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Term
| What are the added accounts for closing entries? |
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Definition
| sales discounts, sales returns and allowances, cost of goods sold |
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Term
| How do you close income accounts? |
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Definition
| debit all income statemnt accounts with a credit balance. Credit Income Summary for the total. Credit all income statement accounts with a debit balance. Debit income summary for the total. If income summary has a credit balance, debit income summary to close it and credit retained earnings. Credit withdrawals to close it and debit capital. |
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Term
| What are the two ways to calculate net income for income statements? |
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Definition
| Capital maintanence approach also called the change in equity approach. Difference in capital values at two points in time. Transaction approach: focus is on components of changes and revenue, expense, loss and gain accounts |
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Term
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Definition
Gross Profit / Net Sales
Percentage of dollar sales available to cover expenses and provide a profit |
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Term
| Rate of inventory turnover |
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Definition
Indicates how rapidly inventory is sold. A business desires to sell its inventory as quickly as possible.
Average Inventory = (beginning inventory + ending inventory) / 2 |
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Term
| Define the rate of inventory turnover. |
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Definition
| The rate of inventory turnover is the ratio of cost of goods sold to average inventory. This ratio measures the number of times a company sells its average level of inventory during a year.The faster the sales, the higher the potential income. |
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Term
| how do you calculate cost of goods sold for a periodic inventory system? |
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Definition
| beginning inventory + purchases = goods available for sale - ending inventory = cost of goods sold |
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Term
| Outline the key points of a multi-step income statement |
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Definition
| sales discounts and returns are contra accounts to sales revenue, these will be combined to create net value. Operating expenses need to be shown separately |
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Term
| How is the income statement formatted? |
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Definition
net sales
- Cost of goods sold
gross profit
- operating expenses:
selling expenses - related to selling and marketing the inventory
general expense- office expenses
Operating income
+ other revenue and expense
net income |
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Term
| Where are freight-in, purchase returns and allowances and purchase discounts recorded? |
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Definition
| They are debited to Inventory |
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Term
| How is Cost of Goods Sold recognized for each sale? |
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Definition
| By debiting Cost of Goods Sold and crediting Inventory |
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Term
| Purchases of merchandise for resale or raw materials for production are recorded how? |
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Definition
| By debiting Inventory rather than purchases |
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Term
| Inventory is a control account that is supported by a subsidiary ledger of individual inventory records. What do the subsidiary records show? |
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Definition
| The quantity and cost of each type of inventory on hand. |
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Term
| List each of the inventory costing methods. |
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Definition
| Specific Unit Cost, FIFO, LIFO, Average Cost |
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Term
| How does Specific Unit Cost work and when is it used? |
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Definition
| assigns a specific invoice cost to each item in the inventory. Used for items that differ from unit to unit, such as real estate and automobiles but is seldom used in practice. |
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Term
| Explain the Average Cost Method and it's pro's and con's |
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Definition
| assigns an average cost to the units on hand and sold. Justified on practical rather than conceptual reasons. Simple to apply, objective, not subject to income manipulation. Particularly persuasive when the inventory involved is relatively homogeneous. |
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Term
| Explain the moving average method. |
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Definition
| assigns a new average unit cost each time a purchase is made. |
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Term
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Definition
| Under the first-in, first-out cost method, the first goods purchased are the first used or sold. Inventory represents the most recent purchases. Oldest costs are assigned to cost of goods sold. Consistant with the physical flow of goods. |
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Term
| What are the advantages of FIFO? |
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Definition
| Ending inventory is close to current cost because it is composed of most recent purchases. Provides most reasonable approximation of replaement cost on the balance sheet when price changes have not occurred since the most recent purchases. |
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Term
| What are the disadvantages of FIFO? |
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Definition
| Current costs are not matched against current revenue on the income statement. Oldest costs are charged. Leads to a distortion in gross profit and net income. |
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Term
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Definition
| Last-in, First-Out cost method, the most recent costs are assigned to cost of goods sold. Matches the cost of the last goods purchased against revenue. LIFO is favored by many companies because it often results in highest cost of goods sold and lowest income tax. |
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Term
| What are the advantages of LIFO? |
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Definition
| Actually approximates the phyisical flow of the goods in and out of the inventory. Matching - the most recent costs are matched against current revenues to provide a better picture of current earnings. The tax benefits - as long as price levels increase and inventory levels do not decrease, a deferral of income taxes occurs. |
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Term
| What is the LIFO conformity rule? |
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Definition
| Tax law requires a company to use LIFO for both tax and financial reporting. |
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Term
| What is the future earnings hedge associated with LIFO? |
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Definition
| future reported earnings are not affected by future price declines. Eliminates or reduces write-downs to market as a result of price decreases. Since most of the recent inventory is sold first, there isn't much ending inventory sitting around at high prices vulnurable to a price decline. Inventory costed under FIFO is more vulnerable to price declines, which can reduce net income substantially. |
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Term
| What are the disadvantages of LIFO? |
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Definition
Reduced earnings - lower profits reported under LIFO in inflationary times for managers who would rather have higher reported profits than lower taxes. Misleading to investors and the stock might fall although non-LIFO earnings are now highly suspect and may be severely penalized by Wall Street. Also leads to understated inventory creating a distorting effect on a company's balance sheet because the understatement of oldest costs remaining in inventory makes the working capital position the company appear worse than it really is.
Current costs income not measured. Involuntary liquidation - if the base layers of old costs are eliminated, old, irrelevant costs can be matched against current revenues. A distortion in reported income for a given period may result as well as consequences that are detrimental from an income tax point of view. |
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Term
| Explain LIFO liquidation. |
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Definition
| Results when there is a decline in inventory quantities meaning you sold more than you purchased. The older costs in the LIFO layer liquidation are matched with current sales dollars. This results in inflated or illusory profit margins. |
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Term
| How is LIFO liquidation profit calculated? |
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Definition
(current cost - LIFO layer cost) x Quantity liquidated.
When LIFO liquidation profits are material, the SEC requires that its income effect be reported. Results in an unssustainable increase in the gross margin percentage. |
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Term
| When does LIFO liquidation occur? |
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Definition
| When current sales are higher than current purchases. The result is that any inventory not sold in previous periods is liquidated. |
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Term
| What does a LIFO liquidation mean for taxes? |
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Definition
| The expected tax advantage of LIFO is turned into a disadvantage because older, lower costs are matched with current revenues. The cost is a higher tax liability if prices have risen since LIFO was adopted. Another cost may be lost sales. |
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Term
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Definition
| The LIFO reserve is a mandated disclosure that shows the dollar magnitude of the difference between LIFO and FIFO inventory costs. By adding the reported LIFO reserve to the balance sheet LIFO inventory number, one can estimate FIFO inventory. The LIFO reserve disclosure also allows the analyst to convert reported LIFO cost of goods sold amount to FIFO amounts. |
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Term
| What are the disadvantages of LIFO? |
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Definition
| Poor buying habits - A company may purchase more goods and matche these goods against revenue to ensure that the old costs are not charged to expense. A company could attempt to manipulate net income at the end of the year by altering purchase patterns. Because of prices rising, LIFO has provided a tax advantage over FIFO. |
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Term
| What are some internal controls for inventory? |
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Definition
| Pre-numbered inventory tickets, counters have no inventory responsibility, counts confirm existence, amount and quality of inventory item, second count is taken, manager confirms all items counted. |
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Term
| Explain how management can exploit the LIFO accounting structure to artificially inflate earnings. |
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Definition
| By liquidating old LIFO layers. The older and presumably lower costs in the LIFO layers are matched against sales amounts that are stated at higher current prices resulting in an artifical rise in the profit margin. |
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Term
| Which inventory method is used most in practice? |
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Definition
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Term
| Explain the Consistancy Principle |
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Definition
| A company should use the same accounting methods from period to period so that financial statments are comparable. Methods can be changed, but the change and the effect of the change must be disclosed. |
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Term
| Explain Disclosure Principle. |
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Definition
| Report enough information for outsiders to make wise decisions about the company. Info should be relevant, reliable and comparable. Methods must be disclosed. |
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Term
| Explain the Materiality Concept. |
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Definition
| The materiality concept states that a company must adhere to GAAP only for items and transactions that are significant to the business's financial statements. Information is significant or material when its presentation int he financial statments would cause someone to change a decision. |
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Term
| Explain accounting conservatism. |
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Definition
| Means reporting items in the financial statements at amounts that lead to the most cautious immediate results. The goal is not to overstate net income or assets, and not to understate liabilities. |
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Term
| Define Lower-orCost-or-Market rule. |
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Definition
| Example of accounting conservatism. Inventory is reported at whichever is lower. Historic cost or market value. If market is lowe than cost -- write inventory down by debiting cost of goods sold and crediting inventory |
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Term
| What is the effect of inventory errors? |
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Definition
| Ending inventory becomes next years beginning inventory and results in misstatement of income over two years. |
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Term
| If ending inventory is overstated ... |
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Definition
| so is net income and gross profit. Cost of Goods sold is understated. |
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Term
| If ending inventory is understated ... |
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Definition
| so is net income and gross profit. Cost of goods sold is overstated. |
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Term
| When are the effects of inventory errors reversed? |
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Definition
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Term
| How might companies try to mislead readers of financial statements by manipulating inventory? |
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Definition
| Management increases inventory values and conceal shortages. Some have gone so far as to mix hundreds of empty boxes with boxes of real merchandise in roder to exaggerate their inventory. |
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Term
| How can you spot inventory fraud? |
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Definition
| A company committing inventory fraud will often not have sales increase as fast as its inventory even as inventory increases shopping costs are falling or remaining the same as the goods sold are not inline with companies filed tax returns. |
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Term
| List a few symptoms of inventory fraud. |
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Definition
| missing documents, second endorsements on checks, unexplained adjustments to inventory, customer complaints, unusual patterns in dopeosits in transit, employees who exceed the scope of their responsibilties, an unusual reduction in a regular customers business, open-ended contracts with suppliers |
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Term
| explain the gross profit method. |
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Definition
| Estimate ending inventory by applying the gross profit ratio to net sales. Useful when inventory has been destroyed, lost or stolen |
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Term
| How do you compute gross profit? |
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Definition
| sales - cost of goods sold |
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Term
| How do you compute gross profit percent? |
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Definition
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