In: Accounting
Exercise 6-7
Bramble Corp. uses the periodic inventory system and reports the following for the month of June.
Units |
Unit Cost |
Total Cost |
|||||||||
---|---|---|---|---|---|---|---|---|---|---|---|
June 1 | Inventory | 264 | $5 | $ 1,320 | |||||||
12 | Purchase | 528 | 7 | 3,696 | |||||||
23 | Purchase | 396 | 11 | 4,356 | |||||||
30 | Inventory | 132 |
a. Compute the cost of the ending inventory and the cost of goods sold under FIFO and LIFO.
b. Which costing method gives the higher ending inventory?
c. Which method results in the higher cost of goods sold?
Periodic Inventory System: Under periodic inventory system, inventory valuation is done at the end of a particular period. Also Cost of Goods Sold is also calculated periodically.
Formula:
Cost of Goods Sold = Beginning Inventory + Purchases - Ending Inventory
Answers (a):
Calculation of Cost of ending inventory (FIFO Method): Under FIFO method, the goods are sold on First in first out basis, i.e., the inventory is bought first is issued for sale first. Thus the ending inventory comprises of latest bought material.
In the given question, Bramble corp. had ending inventory of 132 units. Applying FIFO method, the ending entry is from the 396 units bought on June 23 at $ 11 per unit. Thus he value of inventory will be:
Value of ending inventory = 132 units x $ 11 per unit
= $ 1,452.
Calculation of Cost of ending inventory (LIFO Method): Under LIFO method, the goods are sold on Last in first out basis, i.e., the latest inventory bought is issued for sale first. Thus the ending inventory comprises of units which were bought earlier.
In the given question, Bramble corp. had ending inventory of 132 units. Applying LIFO method, the ending entry is from the 264 units bought on June 1 at $ 5 per unit. Thus he value of inventory will be:
Value of ending inventory = 132 units x $ 5 per unit
= $ 660.
Answer (b): Under inflationary conditions, i.e., when the price of goods bought increases on every subsequent purchases, the value of ending inventory under FIFO method is higher vis-a-vis LIFO method. This is because, the cheap inventory which is bought earlier is offered for sale early and the ending inventory comprises of latest purchases at high price,
Conclusion: Since in the given question, the price of goods purchased is increasing on each subsequent purchases, the value of ending inventory will be higher under FIFO method (i.e. $ 1,452 in the given question).
Answer (c): Under inflationary conditions, i.e., when the price of goods bought increases on every subsequent purchases, the value Cost of Goods Sold is higher under LIFO method. This is because, the latest inventory bought is offered for sale first and the ending inventory comprises of goods bought first and its value is less than other methods of valuation.
Conclusion: Since in the given question, the price of goods purchased is increasing on each subsequent purchases, the Cost of Goods Sold will be higher under LIFO method. The value as per the figures given in the question may be calculated as follows:
Formula:
Cost of Goods Sold (LIFO Method) = Beginning Inventory + Purchases - Ending Inventory
= $ 1,320 + ( $ 3,696 + $ 4,356) - $ 660
= $ 8,712
Cost of Goods Sold (FiFO Method) = Beginning Inventory + Purchases - Ending Inventory
= $ 1,320 + ( $ 3,696 + $ 4,356) - $ 1,452
= $ 7,920
Note: It is evident from the perusal of above that Cost of Goods Sold (COGS) is higher is case of LIFO method vis-a-vis FIFO method.