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Accounting for Inventories

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ACCOUNTING FOR INVENTORIES

For Merchandising Firms
Inventories are valued at cost, net of discounts, and including transportation and other costs (ie: import duties) to prepare the goods for sale.

Buying Inventory: * DR Merchandise Inventory, CR Cash/Accounts Payable

Selling Inventory: * DR A/R or Cash, CR Revenues * DR Cost of Goods Sold Expense, CR Merchandise Inventory

Lower of Cost or Market (LOCOM): * Inventories can sometimes decrease in value while stored due to market conditions, obsolescence or damage * Accounting standards require firms to subject their inventories to an impairment test at fiscal year-end and, where the FMV < Purchase Price, write down the value of their inventory * FMV in IRFS = “net realizable value”; in US GAAP = “replacement cost” * For example, if you purchased 200 ropes at $40 but they are only worth $30 at year end: * DR Impairment expense $2000, CR Accumulated Inventory Impairment $2,000 * The reason we don’t subtract impairment directly from merchandise inventory is because the loss is still unrealized and there is a possibility of recovery in the future. * For example, say market conditions improved and now ropes were valued at $50 * DR Accumulated Inventory Impairment $2,000, CR Impairment Expense $2,000 * Here it does not matter how much greater the value is, we do not account for increases in value

Methods of Inventory Valuation * FIFO (First In, First Out) – units purchased first are the ones to be sold first. Assigns most recent costs to inventory and older costs to COGS. This is the normal course of business – older units are always shipped first. * LIFO (Last In, First Out) – units purchased last are the ones to be sold first. Assigns most recent costs to COGS, and older costs to Inventory. *...

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