Question

Martin Co. sold merchandise to Fess Company on December 31, FOB shipping point. If the merchandise is in transit on December 31, the end of the fiscal year, which company would report it in its financial statements? Explain.

How is the method of determining the cost of the inventory and the method of valuing it disclosed in the financial statements?

What uses can be made of the estimate of the cost of inventory determined by the gross profit method?

Answer 1

1. Fess Company should report the inventory balances in the Balance sheet. Goods sold on FOB shipping point belongs to buyer since the ownership transfer takes place at the shipping point. Once goods belong to buyer the inventory should be reported in his books even though goods are in transit. The transfer of ownership is the important criteria in deciding who will report inventory in balance sheet.

2. The method of determining the cost of inventory and method of valuing is part of accounting policy to be disclosed by the firm. An accounting policy should be disclosed by way of notes to accounts which is part of financial statements and specify the method followed by firm in issuing and valuing the inventory for example: FIFO method, weighted average method. The accounting policy should be followed consistently by firm and any change in inventory accounting method should be accounted retrospectively

3. Estimates of cost of inventory determined by gross profit method can be used for following purpose:

· Preparation of periodical returns of financial statements like monthly or quarterly.

· Claiming insurance when stock is destroyed by catastrophic events like floods, fire, earthquakes, etc

· For determining purchase cost required during a period