Download 6.01 Inventory Control Methods

Understand Inventory Control Methods
PowerPoint #3
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Help businesses account for Ending Inventory
and help determine Cost of Goods Sold
If Inventory consists of large, identifiable
items, it is easy to compute the above.
If Inventory consists of lots of items that are
not specifically identifiable, such as in a
hardware store, it is not very easy to compute
the above.
Businesses use Inventory Control Methods to
help with these computations.
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Because of fluctuations in purchase price of
the inventory, businesses must make
assumptions about which items have sold
and which remain.
These Methods are:
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Specific Identification
First In First Out
Last In Last Out
Weighted Average
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The actual cost of each item is assigned to
the item.
Firms that sell big ticket items such as cars,
appliances, or furniture may use specific
identification.
This method is rarely used in practice today.
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Based on the assumption that the first items
purchased are the first items sold
Assumes the newest acquired items remain in
inventory
During periods of inflation, FIFO will result in
the lowest Cost of Goods Sold and the
highest income.
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Based on the assumption that the last items
purchased are the first items sold
Assumes the oldest acquired items remain in
inventory.
During periods of inflation, the use of LIFO
results in the highest Cost of Goods Sold and
the lowest income.
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Assigns an average cost to each unit in
inventory
This average unit price is calculated prior to
each sale.
This method results in a Cost of Goods Sold
amount that is between the FIFO and LIFO
amounts.
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Lower of Cost or Market is not an inventory
method, it is an application of the GAAP
principle of Conservatism.
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Per GAAP, inventory is valued at historical
cost.
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Sometimes, the original cost of the ending
inventory is more than its replacement cost.
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If inventory has decreased significantly below
historical cost, the Lower of Cost or Market is
used.
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First, inventory is calculated by one of the
inventory control methods.
Next, inventory value is compared to market
value to determine if an adjustment should
be made.
The difference is charged to the Cost of
Goods Sold account or to a special Loss
Account if material.
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Why would a hardware store opt to account
for inventory using an inventory control
method rather than count each individual bin
of nails, screws, and bolts?
Explain the differences between the four
inventory control methods?
Summarize each of the four methods in your
own words.
Explain why the lower of cost or market
method is used by companies.