REVIEW

Chap 7: Inventories
Merchandising Company Manufacturing Company
Inventory • Raw materials
• Work in process
• Finished goods
➔ Merchandising companies report all under Current Assets
1. Control over Inventory
a) Safeguarding from damage or theft → Keep inventory quantities at proper levels
b) Reporting in financial statements
Perpetual Periodic
- Detailed cost of goods purchase & sale - Not detailed inventory on hand
- Record continuously: COGS & on hand - Take physical inventory → on hand → COGS
- Record each time a sale occurs - Record at the end of accounting period
- Taking physical inventory (counting, weighing, measuring on hand) is taken when the
business is closed or slow and at the end of the accounting period.
2. Inventory Costing
- Specific identification
- FIFO
- LIFO Cost Flow Assumptions
- Average-cost

a) Specific Identification
- Unit sold: based on specific purchase
- Unit on hand: based on the real remaining
b) First-in, First-out (FIFO)
- Unit sold: first purchase → sold first
- Unit on hand: based on the last purchases
 c) Last-in, First-out (LIFO)
- Unit sold: last purchase → sold first
- Unit on hand: based on the first purchases
d) Average-cost
- Unit sold: cost is average of purchase costs
- Unit on hand: cost is average of purchase costs
3. Perpetual Inventory System
Jan. 1 Inventory 1,000 $20.00
4 Sale at $30/unit 700
10 Purchase 500 22.40
22 Sale at $30/unit 360
28 Sale at $30/unit 240
30 Purchase 600 23.30
a) FIFO
Purchases COGS Inventory
Date Unit Total Unit Total Unit Total
Q Q Q
Cost Cost Cost Cost Cost Cost
1 1,000 20.00 20,000
4 700 20.00 14,000 300 20.00 6,000
10 500 22.40 11,200 300 20.00 6,000
500 22.40 11,200
22 300 20.00 6,000
60 22.40 1,344 440 22.40 9,856
28 240 22.40 5,376 200 22.40 4,480
30 600 23.30 13,980 200 22.40 4,480
600 23.30 13,980
31 Bal. 26,720 18,460
b) LIFO
Purchases COGS Inventory
Date Unit Total Unit Total Unit Total
Q Q Q
Cost Cost Cost Cost Cost Cost
1 1,000 20.00 20,000
4 700 20.00 14,000 300 20.00 6,000
10 500 22.40 11,200 300 20.00 6,000
500 22.40 11,200
22 360 22.40 8,064 300 20.00 6,000
140 22.40 3,136
28 140 22.40 3,136 200 20.00 4,000
100 20.00 2,000
30 600 23.30 13,980 200 20.00 4,000
600 23.30 13,980
31 Bal. 27,200 17,980
c) Average-cost
Purchases COGS Inventory
Date Unit Total Unit Total Unit Total
Q Q Q
Cost Cost Cost Cost Cost Cost
1 1,000 20.00 20,000
4 700 20.00 14,000 300 20.00 6,000
10 500 22.40 11,200 800 21.50 17,200
22 360 21.50 7,740 440 21.50 9,460
28 240 21.50 5,160 200 21.50 4,300
30 600 23.30 13,980 800 22.85 18,280
31 Bal. 26,900 800 22.85 18,280
d) Journal
FIFO LIFO Average-cost
4 A/R 21,000 21,000 21,000
Sales 21,000 21,000 21,000
4 COGS 14,000 14,000 14,000
M/I 14,000 14,000 14,000
10 M/I 11,200 11,200 11,200
A/P 11,200 11,200 11,200
22 A/R 10,800 10,800 10,800
Sales 10,800 10,800 10,800
22 COGS 7,344 8,064 7,740
M/I 7,344 8,064 7,740
28 A/R 7,200 7,200 7,200
Sales 7,200 7,200 7,200
28 COGS 5,376 5,136 5,160
M/I 5,376 5,136 5,160
30 M/I 13,980 13,980 13,980
A/P 13,980 13,980 13,980
4. Periodic Inventory System
- Only rev. is recorded each time a sale is made
- At the end of the accounting period, a physical inventory is taken to determine the cost
of the ending inventory & COGS
Prepare:
1 Inventory 1,000 units $20.00 $20,000
10 Purchase 500 units 22.40 11,200
30 Purchase 600 units 23.30 13,980
Available for sale 2,100 units $45,180
Sale 1,300 units
a) FIFO
Ending inventory 600 units 23.30 18,460
200 units 22.40
COGS = Available - Ending 26,270
b) LIFO
Ending inventory 800 units 20.00 16,000
COGS = Available - Ending 29,180
c) Average-cost
𝑇𝑜𝑡𝑎𝑙 𝑐𝑜𝑠𝑡 𝑜𝑓 𝐴𝑣𝑎𝑖𝑙𝑎𝑏𝑙𝑒
𝑊𝑒𝑖𝑔ℎ𝑡𝑒𝑑 𝐴𝑣𝑒𝑟𝑎𝑔𝑒 𝑈𝑛𝑖𝑡 𝐶𝑜𝑠𝑡 =
𝑈𝑛𝑖𝑡𝑠 𝐴𝑣𝑎𝑖𝑙𝑎𝑏𝑙𝑒
$45,180
= = $21.51/𝑢𝑛𝑖𝑡
2,100 𝑢𝑛𝑖𝑡𝑠
Ending inventory 800 units 21.51 17,208
COGS = Available - Ending 27,972
d) Comparing
- Different method → different:
o COGS
o Gross profit
o Net income
o Ending inventory
e) Valuation at Lower of Cost or Market (LCM)
- When the market is lower than the purchase cost → value inventory
- Market value ~ Net realizable value: replacement cost
𝑁𝑒𝑡 𝑅𝑒𝑎𝑙𝑖𝑧𝑎𝑏𝑙𝑒 𝑉𝑎𝑙𝑢𝑒 = 𝐸𝑠𝑡𝑖𝑚𝑎𝑡𝑒𝑑 𝑆𝑒𝑙𝑙𝑖𝑛𝑔 𝑃𝑟𝑖𝑐𝑒 − 𝐷𝑖𝑟𝑒𝑐𝑡 𝐶𝑜𝑠𝑡𝑠 𝑜𝑓 𝐷𝑖𝑠𝑝𝑜𝑠𝑎𝑙

f) Effect of Inventory Errors

Chap 9: Receivables
Three accounting issues:
- Recognizing → on account
- Valuing
- Disposing
1. Classification
- Trade Receivables:
o A/R: short period
o N/R: credit period
- Non-trade Receivables:
2. Valuing A/R
- Seller records losses resulting from extending credit as Bad Debts Expense
(uncollectible accounts exp. or doubtful accounts exp.)
- Method of accounting for uncollectible receivables:
o Direct write-off method: record only when an account is determined to be
worthless
o Allowance method: record by estimating uncollectible accounts at the end of
the accounting period
3. Direct Write-Off Method
Ex: on May 10, a $4,200 A/R from D.L.Ross has been determined to be uncollectible
May 10 Bad Debt Exp. 4,200
A/R – D.L.Ross 4,200
Account written-off → collect later → record again to reverse the write-off entry → reinstate
Ex: on November 21, D.L.Ross account is collected
Nov. 21 A/R – D.L.Ross 4,200
Bad Debt Exp. 4,200
21 Cash 4,200
A/R – D.L.Ross 4,200
4. Allowance Method
- Estimate → not know specific account → Allowance for Doubtful Accounts
- Allowance for Doubtful Accounts: contra asset account
Ex: Dec. 31 Estimate $30,000 of A/R will be uncollectible
Dec. 31 Bad Debt Exp. 30,000
Allowance for Doubtful Accounts 30,000
5. Write-off for Allowance
- Adjusting entry → increase Allowance for Doubtful Accounts
- Writing off accounts → decrease Allowance for Doubtful Accounts
Ex: Jan. 21 John’s account of $6,000 with Company E is written off
Jan. 21 Allowance for Doubtful Accounts 6,000
A/R - John 6,000
Ex: June 10 Company E record the reinstatement
June 10 A/R – John 5,000
Allowance for Doubtful Accounts 5,000
 10 Cash 5,000
A/R – John 5,000
Ex: July 9 Received $1,200 from Jay and wrote off the remainder owed of $3,900
Oct. 11 Reinstated the account of Jay and received $3,900 cash in full payment
July 9 Cash 1,200
Allowance for Doubtful Accounts 3,900
A/R - Jay 5,100
Oct. 11 A/R - Jay 3,900
Allowance for Doubtful Accounts 3,900
11 Cash 3,900
A/R - Jay 3,900
6. Comparing Direct Write-off & Allowance Method

Ex:
7. Estimating the Allowance
- Based on past experience, industry averages, and forecast of the future
- 2 methods:
o Percent of sales
o Analysis of receivables
a) Percent of Sales Method
- The amount of the adjusting entry is the amount estimated for Bad Debt Expense
- Estimate as a percent of credit sales
𝐵𝑎𝑑 𝐷𝑒𝑏𝑡 𝐸𝑥𝑝𝑒𝑛𝑠𝑒 = 𝐶𝑟𝑒𝑑𝑖𝑡 𝑆𝑎𝑙𝑒𝑠 × 𝐵𝑎𝑑 𝐷𝑒𝑏𝑡 𝑎𝑠 𝑎 𝑃𝑒𝑟𝑐𝑒𝑛𝑡 𝑜𝑓 𝐶𝑟𝑒𝑑𝑖𝑡 𝑆𝑎𝑙𝑒𝑠
Ex:

Dec. 31 Bad Debt Exp. 22,500

Allowance for Doubtful Accounts 22,500
3
($3,000,000 × 4 % = $22,500)
b) Analysis of Receivables Method
- The longer A/R is outstanding, the less likely it will be collected
- Aging the receivables:
Ex: E Co. sold merchandise to Saxon Co. on August 29 with terms 2/10, n/30

- Sum of the estimated uncollectible accounts for each aged classes is the estimated
uncollectible accounts on Dec. 31 → the desired adjusted balance for Allowance for
Doubtful Accounts

Dec. 31 Bad Debt Exp. 23,240

Allowance for Doubtful Accounts 23,240
($26,490 − $3,250)
c) Comparing
8. Notes Receivables
a) Characteristics

- Interest Rate (annual/yearly): the rate must be paid on the face amount for the term of
the note
𝑇𝑒𝑟𝑚
𝐼𝑛𝑡𝑒𝑟𝑒𝑠𝑡 = 𝐹𝑎𝑐𝑒 𝐴𝑚𝑜𝑢𝑛𝑡 × 𝐼𝑛𝑡𝑒𝑟𝑒𝑠𝑡 𝑅𝑎𝑡𝑒 ×
360
- Maturity Value: the amount must be paid at the due date
𝑀𝑎𝑡𝑢𝑟𝑖𝑡𝑦 𝑉𝑎𝑙𝑢𝑒 = 𝐹𝑎𝑐𝑒 𝐴𝑚𝑜𝑢𝑛𝑡 + 𝐼𝑛𝑡𝑒𝑟𝑒𝑠𝑡
b) Honor of N/R
- Maker pays full at maturity date
Ex: Nov. 21 Receive a $6,000, 12%, 30-day note in settlement of the account of W Co.
Dec. 21 Record the receipt of $6,060
Nov. 21 N/R – W Co. 6,000
A/R – W Co. 6,000
Dec. 21 Cash 6,060
N/R – W Co. 6,000
Interest Rev. 60
30
($6,060 = $6,000 + ($6,000 × 12% × 360)
c) Dishonor of N/R
- Not paid full at maturity
- Company has earned the interest, even though the note is dishonored
Ex: Dec. 21 Note is dishonored
Dec. 21 A/R – W Co. 6,060
N/R – W Co. 6,000
Interest Rev. 60
Ex: Dec. 1 Craw Co. issues a $4,000, 90-day, 12% note to settle its A/R
Dec. 1 N/R – Craw Co. 4,000
A/R – Craw Co. 4,000
31 Interest Receivable 40
Interest Rev. 40
30
Accrued interest ($4,000 × 12% × 360)
Mar. 1 Cash 4,120
N/R – Craw Co. 4,000
Interest Receivable 40
Interest Rev. 80
90
Total interest of $120 ($4,000 × 12% × 360)

Chap 10: Fixed Assets & Intangible Assets

1. Classifying

- Fixed Assets:
o Includes physical & intangible
o Used in normal operations
o Not offered for sale as part of normal operations
o Last more than 1 year (long-lived)
- Investments:
o Long-lived
o Not used in normal operations
o Held for future resale
2. Cost of Fixed Assets
- Only cost necessary for preparing the fixed asset for use → record as the cost of asset
- Unnecessary costs not increase the asset’s usefulness → record as expense
Ex: Purchase equipment for $12,000.
Freight costs of $600
Installation costs of $1,500, including $500 due to an error in installation
Equipment 13,600
Cash 13,600
($12,000 + $600 + $1,500 - $500)
3. Expenditures

Ex: $300 paid for a tune-up of a delivery truck

Add a $5,500 hydraulic lift to allow for easier and quicker loading of cargo
The engine of a forklift that is near the end of its useful life may be overhauled at a cost of
$4,500
Repairs and Maintenance Exp. 300
Cash 300
Delivery Truck 5,500
Cash 5,500
Accumulated Depreciation – Forklift 4,500
Cash 4,500
4. Depreciation
- Factors in computing:
o Initial cost = Purchase price + All costs to obtain & ready for use
o Expected useful life: the estimated length of time the asset be used
o Estimated residual/salvage value: the estimated value of the asset at the end of
its useful life
o Depreciable cost: the difference between initial cost & residual cost
5. Depreciation Methods
Ex: Barb purchased a small delivery truck on Jan. 1, 2015

a) Straight-line
- Depreciation Exp. is the same for each year
𝐷𝑒𝑝𝑟𝑒𝑐𝑖𝑎𝑏𝑙𝑒 𝐶𝑜𝑠𝑡 = 𝐶𝑜𝑠𝑡 − 𝑆𝑎𝑙𝑣𝑎𝑔𝑒/𝑅𝑒𝑠𝑖𝑑𝑢𝑎𝑙 𝑉𝑎𝑙𝑢𝑒
𝐷𝑒𝑝𝑟𝑒𝑐𝑖𝑎𝑏𝑙𝑒 𝐶𝑜𝑠𝑡
𝐴𝑛𝑛𝑢𝑎𝑙 𝐷𝑒𝑝𝑟𝑒𝑐𝑖𝑎𝑡𝑖𝑜𝑛 =
𝑈𝑠𝑒𝑓𝑢𝑙 𝐿𝑖𝑓𝑒
𝐵𝑜𝑜𝑘 𝑉𝑎𝑙𝑢𝑒 = 𝐹𝑖𝑥𝑒𝑑 𝐴𝑠𝑠𝑒𝑡 𝐴𝑐𝑐𝑜𝑢𝑛𝑡 − 𝐴𝑐𝑐𝑢𝑚𝑢𝑙𝑎𝑡𝑒𝑑 𝐷𝑒𝑝𝑟𝑒𝑐𝑖𝑎𝑡𝑖𝑜𝑛
100%
𝐴𝑛𝑛𝑢𝑎𝑙 𝑅𝑎𝑡𝑒 𝑜𝑓 𝐷𝑒𝑝𝑟𝑒𝑐𝑖𝑎𝑡𝑖𝑜𝑛 =
𝑈𝑠𝑒𝑓𝑢𝑙 𝐿𝑖𝑓𝑒
Dep. Annual Partial Current Accum. Book
Year Rate
Cost Exp. Year Year Exp. Dep. Value
2015 5 $2,400 $10,600
2016 4 4,800 8,200
2017 $12,000 20% $2,400 3 $2,400 7,200 5,800
2018 2 9,600 3,400
2019 1 12,000 1,000
2015 Journal Entry:
Depreciation Exp. 2,400
Accum. Dep. 2,400
b) Unit-of-Activity
- Step 1: Determine the depreciation per unit
𝐷𝑒𝑝𝑟𝑒𝑐𝑖𝑎𝑏𝑙𝑒 𝐶𝑜𝑠𝑡
𝐷𝑒𝑝𝑟𝑒𝑐𝑖𝑎𝑡𝑖𝑜𝑛 𝐶𝑜𝑠𝑡 𝑝𝑒𝑟 𝑈𝑛𝑖𝑡 =
𝑇𝑜𝑡𝑎𝑙 𝑈𝑛𝑖𝑡𝑠 𝑜𝑓 𝐴𝑐𝑡𝑖𝑣𝑖𝑡𝑦
- Step 2: Compute the depreciation expense
𝐴𝑛𝑛𝑢𝑎𝑙 𝐷𝑒𝑝𝑟𝑒𝑐𝑖𝑎𝑡𝑖𝑜𝑛 𝐸𝑥𝑝𝑒𝑛𝑠𝑒 = 𝐷𝑒𝑝𝑟𝑒𝑐𝑖𝑎𝑡𝑖𝑜𝑛 𝐶𝑜𝑠𝑡 𝑝𝑒𝑟 𝑈𝑛𝑖𝑡 × 𝑈𝑛𝑖𝑡𝑠 𝑜𝑓 𝐴𝑐𝑡𝑖𝑣𝑖𝑡𝑦
Year Miles Used Cost per Unit Annual Exp. Accum. Dep. Book Value
2015 15,000 1,800 1,800 11,200
2016 30,000 3,600 5,400 7,600
2017 20,000 0.12 2,400 7,800 5,200
2018 25,000 3,000 10,800 2,200
2019 10,000 1,200 12,000 1,000
2015 Journal Entry:
Depreciation Exp. 1,800
Accum. Dep. 1,800
c) Double-Declining-Balance Method
- Step 1: Determine the straight-line rate
100%
𝑆𝑡𝑟𝑎𝑖𝑔ℎ𝑡 − 𝐿𝑖𝑛𝑒 𝑅𝑎𝑡𝑒 =
𝑈𝑠𝑒𝑓𝑢𝑙 𝐿𝑖𝑓𝑒
- Step 2: Determine the double-declining-balance rate
𝐷𝑜𝑢𝑏𝑙𝑒 − 𝐷𝑒𝑐𝑙𝑖𝑛𝑖𝑛𝑔 − 𝐵𝑎𝑙𝑎𝑛𝑐𝑒 𝑅𝑎𝑡𝑒 = 𝑆𝑡𝑟𝑎𝑖𝑔ℎ𝑡 − 𝐿𝑖𝑛𝑒 𝑅𝑎𝑡𝑒 × 2
- Step 3: Determine the depreciation expense
𝐴𝑛𝑛𝑢𝑎𝑙 𝐷𝑒𝑝𝑟𝑒𝑐𝑖𝑎𝑡𝑖𝑜𝑛 𝐸𝑥𝑝𝑒𝑛𝑠𝑒
= 𝐷𝑒𝑐𝑙𝑖𝑛𝑖𝑛𝑔 − 𝐵𝑎𝑙𝑎𝑛𝑐𝑒 𝑅𝑎𝑡𝑒 × 𝐵𝑜𝑜𝑘 𝑉𝑎𝑙𝑢𝑒 𝑎𝑡 𝐵𝑒𝑔𝑖𝑛𝑛𝑖𝑛𝑔 𝑜𝑓 𝑌𝑒𝑎𝑟
Beginning Declining
Year Annual Exp. Accum. Dep. Book Value
Book value Balance Rate
2015 13,000.00 5,200.00 5,200.00 7,800.00
2016 7,800.00 3,120.00 8,320.00 4,680.00
2017 4,680.00 40% 1,872.00 10,192.00 2,808.00
2018 2,808.00 1,123.20 11,315.20 1,684.80
2019 1,684.80 673.92 11,989.12 1,010.88
2015 Journal Entry:
Depreciation Exp. 5,200
Accum. Dep. 5,200
d) Comparing

6. Depreciation for Income Tax

- Internal Revenue Service (IRS) does not require to use the same method on the tax
return that is used in preparing financial statements.
- IRS requires straight-line method or accelerated-depreciation method, called Modified
Accelerated Cost Recovery System (MACRS).
- MASCRS has:
o 5-year class: automobiles & light-duty trucks
o 7-year class: most machinery & equipment
- Using MACRS, residual value is ignored.
 7. Disposals of Fixed Assets
- In 3 ways:
o Retirement: be scrapped or discarded
o Sale: be sold to another party
o Exchange: be traded for new one
- MUST record depreciation up to the date of disposal
- Debit Accum. Dep. for the full amount of depreciation taken over the life
- Credit Asset Account for the original cost
a) Retirement
Ex: Equipment costing $6,000 with no estimated residual value is depreciated at straight-line
rate of 10%
Dec. 31 Accum. Dep. balance is $4,650
Mar. 24 Equipment is discarded
Mar. 24 Dep. Exp. – Equipment 150
Accum. Dep. – Equipment 150
3
To record current dep. on equipment discarded ($600 × )
12
24 Accum. Dep. – Equipment 4,800
Loss on Disposal of Equipment 1,200
Equipment 6,000
To write off equipment discarded
b) Sale
- Compare book value with selling price:
o If selling price > book value → Gain on Sales
o If selling price < book value → Loss on Sales
Ex: Equipment costing $10,000 with no estimated residual value is depreciated at straight-line
rate of 10%
Dec. 31 Accum. Dep. balance is $7,000
Oct. 12 Equipment is sold for cash of the eight year of its use
Oct. 12 Dep. Exp. – Equipment 750
Accum. Dep. – Equipment 750
9
To record current depreciation on equipment sold ($10,000 × 12 × 10%)
➔ Book value = $2,250
Sold at book value, for $2,250 → No gain or loss
Oct. 12 Cash 2,250
Accum. Dep. – Equipment 7,750
Equipment 10,000
Sold below book value, for $1,000 → Loss of $1,250
Oct. 12 Cash 1,000
Accum. Dep. – Equipment 7,750
Loss on Sale of Equipment 1,250
Equipment 10,000
Sold above book value, for $2,800 → Gain of $550
Oct. 12 Cash 2,800
Accum. Dep.- Equipment 7,750
Equipment 10,000
Gain on Sale of Equipment 550
8. Example
9. Natural Resources
- Cost of Natural Resources: price needed to acquire & prepare for intended use
- Depletion:
o Accumulated Depletion is a contra-asset account
o Generally use units-of-activity method
- Step 1: Determine the depletion rate
𝐶𝑜𝑠𝑡 𝑜𝑓 𝑅𝑒𝑠𝑜𝑢𝑟𝑐𝑒
𝐷𝑒𝑝𝑙𝑒𝑡𝑖𝑜𝑛 𝑅𝑎𝑡𝑒 =
𝐸𝑠𝑡𝑖𝑚𝑎𝑡𝑒𝑑 𝑇𝑜𝑡𝑎𝑙 𝑈𝑛𝑖𝑡𝑠 𝑜𝑓 𝑅𝑒𝑠𝑜𝑢𝑟𝑐𝑒
- Step 2: Determine the depletion rate
𝐷𝑒𝑝𝑙𝑒𝑡𝑖𝑜𝑛 𝐸𝑥𝑝𝑒𝑛𝑠𝑒 = 𝐷𝑒𝑝𝑙𝑒𝑡𝑖𝑜𝑛 𝑅𝑎𝑡𝑒 × 𝑄𝑢𝑎𝑛𝑡𝑖𝑡𝑦 𝑅𝑒𝑚𝑜𝑣𝑒𝑑
Ex:

Dec. 31 Depletion Exp. 36,000

Accum. Depl. 36,000
10. Intangible Assets
- Credit asset account
- Limited-life intangibles → Amortization
- Indefinite-life intangibles → No amortization
- Major issues:
o Determine the initial cost
o Determine the amortization – the amount of cost to transfer to expense
Ex: At the beginning of fiscal year, company acquires patent rights for $100,000
The remaining useful life is estimated as 5 years.
Dec. 31 Amortization Exp. – Patents 20,000
Patents 20,000
($100,000/5)
Ex: $250,000 of the goodwill created from the purchase of Electronic Systems is impaired
Dec. 31 Loss from Impaired Goodwill 250,000
Goodwill 250,000
Impaired goodwill