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6.01 Inventory Control Methods. Understand Inventory Control Methods. PowerPoint #3. Inventory Control Methods. 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.

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6 01 inventory control methods

6.01 Inventory Control Methods

Understand Inventory Control Methods

PowerPoint #3

inventory control methods
Inventory Control Methods
  • 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.
assumptions
Assumptions
  • Because of fluctuations in purchase price of the inventory, businesses must make assumptions about which items have sold and which remain.
  • These Methods are:
    • Specific Identification
    • First In First Out
    • Last In Last Out
    • Weighted Average
specific identification
Specific Identification
  • 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.
first in first out
First In First Out
  • 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.
last in first out
Last In First Out
  • 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.
weighted average
Weighted Average
  • 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.
lower of cost or market
Lower of Cost or Market
  • Lower of Cost or Market is not an inventory method, it is an application of the GAAP principle of Conservatism.
  • Per GAAP, inventory is valued at historical cost.
  • Sometimes, the original cost of the ending inventory is more than its replacement cost.
  • If inventory has decreased significantly below historical cost, the Lower of Cost or Market is used.
lower of cost or market cont d
Lower of Cost or Market (cont’d)
  • 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.
questions for understanding discussion
Questions for Understanding/Discussion
  • 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.