Question

we focus on different methods used to estimate ending inventory – the gross profit method and the retail inventory method.

Discuss how each method is used to calculated estimated ending inventory.

Under what circumstances is it appropriate to use these methods?

Support your response to question #2 with a reference from the ASC (Accounting Standard Codification).

Answer 1

Gross Profit Method - Under this method, at first, the gross profit percentage is calculated which implies that the remaining is the percentage of the cost of goods sold (1 - goods sold percentage). And now we can calculate the cost of Inventory by deducting the cost of goods sold from the cost of goods available for sale.

This method is generally used where the cost of goods and inventory is not possible to be calculated. In circumstances such as theft of goods or where the records pertaining to the cost of the inventory and purchases are not available. It is also used at small scale businesses where it is not possible to maintain comprehensive cost data.

Retail Inventory Method - This method, as the name suggests, is majorly used in cases of retail business where inventory is important for the business operations. To use the retail inventory method, at first, we need to calculate the Ending Inventory at retail prices and then cost-to-retail ratio. At last, the cost to retail ratio is applied to calculate the cost value of the Inventory.

As per ASC 330, This method is generally used where the movement of the goods are pretty high and it is important to track the inventory for the business operations. So, in order to cut down the process, estimated inventory is calculated instead of taking a proper physical count. It justifies all the requirements of ASC, yet be simple to workout on a quick basis.