Question

The Rockwell Corporation uses a periodic inventory system and has used the FIFO cost method since inception of the company in 1982. In 2021, the company decided to change to the average cost method. Data for 2021 are as follows: 

Additional Information: 

1. The company’s effective income tax rate is 25% for all years. 

2. If the company had used the average cost method prior to 2021, ending inventory for 2020 would have been $130,000. 

3. 7,000 units remained in inventory at the end of 2021. 

 

Required: 

1. Prepare the journal entry at the beginning of 2021 to record the change in principle. 

2. In the 2021–2019 comparative financial statements, what will be the amounts of cost of goods sold and inventory reported for 2021?

Answer 1

Required 1 :
Particulars	Amount($)
Ending Inventory under FIFO for 2020	$ 150,000
Less: Ending Inventory under Average Cost for 2020	($ 130,000)
Decrease in ending inventory from change	$ 20,000
If the ending inventory have decreased , Net income and Retained
earning would decreased. The reduction in retained earnings will
reflect after tax amount {$20,000 *(1-25%)=$ 15,000}. Also the asset
inventory would be decreased.

 

No	Event	General Journal	Debit	Credit
1)	1)	Retained Earnings {$20,000*75%)	$ 15,000
		Deferred Tax Asset ($20,000*25%)	$ 5,000
		Inventory		$ 20,000
		(To record the change in principle at the beginning of 2021)

 

Required 2 :

Cost of goods Sold	$ 272,000
Inventory	$ 238,000

 

Explanation :

Using Average Cost :
Particulars	Amount ($)	Amount ($)
Beginning inventory (5,000 units )		$ 130,000
Purchases:
5,000 units @ $ 36 Per unit	$ 180,000
5,000 units @ $ 40 Per unit	$ 200,000	$ 380,000
Cost of Goods available for sale (15,000 units )		$ 510,000
Less: Ending Inventory (See Note 1 )		($238,000)
Cost of goods Sold		$ 272,000

 

Note 1 :

Calculate the Ending Inventory :

Weighted average cost per unit = $ 510,000 / 15,000 units

Weighted average cost per unit = $ 34 Per unit

So, Ending inventory in units = 15,000 units - 8,000 units = 7,000 units

Ending inventory = 7,000 units * $ 34 per Unit

Ending inventory = $ 238,000

Required 1 :
Particulars	Amount($)
Ending Inventory under FIFO for 2020	$ 150,000
Less: Ending Inventory under Average Cost for 2020	($ 130,000)