Understanding Inventory Management and Financial Statements, Exams of Accounting

Download Understanding Inventory Management and Financial Statements and more Exams Accounting in PDF only on Docsity! ACCOUNTING 3100 Test 2 Exam Questions with Correct Answers Solved by Expert 2024 What is the purpose of the balance sheet? - Correct answer Reports a company's resources (assets) and claims to those resources (liabilities and shareholders' equity). >snapshot of a company's economic condition at a point in time VS (over time: income & CFs) Describe the usefulness of the balance sheet (4) - Correct answer 1. *Describes the resources a firm has available* for generating future cash flows 2. Provides information to assess a firm's liquidity: current assets vs. current liabilities (*liquidity*) 3. Evaluate long term *solvency* and *financial flexibility* What is the main limitation of the balance sheet? (2 others) - Correct answer 1. It does not measure the market value of the firm (measured in historical) 2. Uses estimates 3. Omission of intangibles Classifications of Balance sheet - Correct answer Assets, then liabilities, then shareholders' equity > Current to long-term. How are current assets presented? Examples (5) term-26 - Correct answer usually presented in the order of liquidity: 1. Cash and cash equivalents 2. Short-term investments 3. Account Receivable 4. Inventory 5. Prepaid expenses What must be disclosed? (2) - Correct answer Restrictions or commitments must be disclosed: 5 examples of current liabilities - Correct answer 1. Accounts payable 2. Notes payable 3. Unearned revenues 4. Accrued liabilities (e.g.: salary payable) 5. Currently maturing portion of long-term debt (Satisfied within a year) How do we know what "other current assets" include? - Correct answer the financial statement disclosures We can apply the conventional RIM to approximate LCM by - Correct answer excluding *markdowns* from the calculation of the cost-to-retail %. Not markups Markups VS Markdowns - Correct answer Markups the market value of an item has increased. Markdowns a decline in the utility (value) of the item has occurred. Why would the value of an item decline? 5 - Correct answer a decline in the general level of 1. Prices, 2. Special sales, 3. Soiled or damaged goods, 4. Overstocking, 5. Competition. Ending inventory at cost = - Correct answer Cost-to-retail-ratio (X) ending inventory What does the RIM conventional method result in? - Correct answer does not include markdowns... >results in a lower cost of retail value. Lower estimate More frequently used To calculate ending inventory at cost what is the first step that needs to be done? - Correct answer Calculate cost-to-retail value How to calculate ending inventory? - Correct answer Add up everything retail related.... including markdowns even if using conventional method.... then subtract net sales When approximating LIFO inventory... what should be kept in mind when calculating cost-to-retail value? (3) - 1 is most important - Correct answer 1. The cost-to-retail ratio is computed for each layer of LIFO inventory. 2. Use both markups and markdowns in the computation. 3. The cost of the incremental inventory layer (if any) will be added to the cost of the beginning inventory layer. > at original cost less accumulated depreciation. Intangible Assets lack ___ ___ and are not __ ____. - Correct answer Lack *physical substance* and are not *financial instruments* Liabilities are classified as current if: (2) - Correct answer 1. They are expected to be liquidated using current assets. 2. Refinanced with other short-term liabilities. Long term liabilities (define) give 4 examples - Correct answer > Obligations that a company does not reasonably expect to satisfy within the normal operating cycle. 1. Long-term notes 2. Bonds 3. Pension obligations 4. Lease obligations Retained Earnings = - Correct answer Accumulated Earnings less (-) accumulated Dividends ................ or...... Begin ret earnings + NI - dividends The CF Statement explains... - Correct answer the change in cash on the balance sheet for the period: (ending cash balance - beginning cash balance). When if free cash flow (CFO - CFI) is positive/ negative? - Correct answer If negative - raising debt, equity, consuming cash reserves? If positive - where did the money go? How can we tell if the investment base is increasing or decreasing? - Correct answer Compare capital expenditures (investing cash flows) to depreciation expense Operating cash flows: define - Correct answer inflows and outflows of cash related to the transactions that determine net operating income (changes in operating accounts). 2 examples of operating cash inflows? - Correct answer 1. Cash receipts from customers (revenues made in cash). 2. Interest and dividends from investments (US GAAP). 4 examples of operating cash outflows? - Correct answer 1. Cash paid to suppliers for inventory. 2. Cash paid for business expenses. 3. Interest expense. 4. Income tax. Investing cash flows: define Investments vs. productive assets - Correct answer > cash transactions involving long- term assets. --Investments - debt and equity of other entities --Productive assets - Property, plant and equipment 2 examples of investing cash inflows? - Correct answer 1. Sale of PP&E or investments. 2. Collection of loans. 3 examples of investing cash outflows? - Correct answer 1. Purchasing investment securities. 2. Purchasing PP&E. 3. Lending money. Financing cash flows: involve (3) - Correct answer 1. cash inflows and outflows from stock transactions 2. borrowing money (from creditors) 3. paying dividends (capital structure) 2 examples of financing cash inflows? - Correct answer 1. Cash received from stock issuances. 2. Cash received from borrowing money, i.e. through notes, loans, mortgages, and bonds. 3 examples of financing cash outflows? - Correct answer 1. Cash paid out in dividends or other distributions. 2. Cash used for reacquisition of firm shares. 3. Cash used in repayment of the principal amounts of debt. Why do we need to make adjustments to NI in order to calculate CFO???? Indirect method - Correct answer > Some transactions only affect income but not cash, or only affect cash but not income. Examples: Depreciation expense, sales on credit (A/R), prepaid expenses, unearned revenue. What makes you subtract (add to) from NI? Assets, lab - Correct answer > rise in assets > decrease in liabilities Opposite Indirect method of preparing CFO will look like: (7 steps) - Correct answer 1. Net Income 2. + Depreciation expense 3. - Increase in Account Receivables 4. - Increase in Inventory 5. + Increase in different types of Payables 6. + Increase in unearned revenue 7. = Cash Flow from Operating Activities Which investing or financing activities are not recorded in statement of cash flows? - Correct answer > Noncash Investing/Financing Activities Example: Stock exchanged for property. The focus of accounting is one _____ and two _______ - Correct answer 1. CONTROL 2. REPORTING Cash: Define - Correct answer currency, coins, balances in checking accounts, and items acceptable for deposit in these accounts. Cash Equivalents: define - Correct answer Short-term (maturity date usually less than 3 months), highly liquid investments such as money market fund, treasury bills, and commercial papers. 2 vital controls that management creates - Correct answer 1. *Separation of duties*: Employee A who has physical access to cash should not have access to accounting records. 2. Must have a system of record keeping and accountability (using check or credit card instead of cash). Who evaluates the internal control system for cash management? - Correct answer Auditors 3 examples of internal control procedures for cash: explain why - Correct answer 1. All disbursements should be made by check - this provides a permanent record of cash disbursements. 2. All cash expenditures should be authorized before a check is cut - ensure that the invoice matches the check amount. 3. Checks should only be signed by certain individuals. What is the purpose of internal control procedures for cash? - Correct answer to minimize errors and theft. What is Restricted cash reported as - Correct answer investments and funds or other assets. For example, a Bank may require a company to maintain a compensating balance as condition of a loan.: some portion of $ always in bank the way we measure inventory affects 2 things: - Correct answer 1. Gross profit, and therefore reported net income (via COGS). 2. The value of inventory reported on the balance sheet, which affects financial reporting ratios (current ratio, inventory turnover ratio, etc.). Merchandising inventory are goods that are... - Correct answer purchased primarily in finished form from wholesalers and *retailers* When using merchandising inventory.... COGS include.... - Correct answer purchase price plus any other costs necessary to get the goods in condition and location for sale. GAFS = - Correct answer Beginning inventory + purchases for the period Explain the difference between a perpetual and periodic inventory system, which is more common? - Correct answer Perpetual: The inventory account is continuously updated as purchases and sales are made. *More common* Periodic: The inventory account is adjusted at the end of a reporting period. An important feature of a perpetual system is that... - Correct answer it is designed to track both inventory quantities and inventory costs from their acquisition to their sale. In which system do we not determine cost of goods sold until the end of the accounting period? - Correct answer Periodic inventory system Journal entries to record the purchase and sale of inventory: Perpetual - Correct answer 1. Record the purchase. Dry: Inventory 845,000 Cr: Accounts payable 845,000 2. Record the sale. Dry: Accounts receivable 1,420,000............ CR: Sales revenue 1,420,000 DR: Cost of goods sold 902,000................. CR: Inventory 902,000 What creates inventory levels? - Correct answer When firms hold more units then they sell in any period The firm's inventory cost flow assumption must match the actual physical flow of the firm's inventory T/F - Correct answer False, it is an assumption 4 types of inventory costing approaches - Correct answer 1. Specific Identification 2. Average Cost 3. FIFO 4. LIFO Average cost = - Correct answer Cost of Goods available for sale /Quantity available for sale If prices are rising FIFO results in: B/S Value & COGS - Correct answer 1. B/S value of inventory that approximates market value (replacement cost). 2. COGS that is lower than actual replacement cost of the inventory. If prices are rising LIFO results in: B/S Value & COGS - Correct answer 1. B/S value of inventory that is less than its actual market value. 2. COGS that represent the actual replacement cost of the inventory, i.e. a better representation of profit margin (and income). 2 benefits of FIFO - Correct answer 1. actual value of inventory 2. higher GP & net income Which type of the 4 gives you the highest valuation of? 1. COGS 2. Ending Inventory When costs are rising.... - Correct answer 1. COGS- highest for LIFO 2. Ending Inventory- highest for FIFO (This result only holds when unit inventory costs are RISING!!!) Inventory account reflects beginning inventory balance *only*. periodic or perpetual? - Correct answer Periodic Are sales of units recorded in the Inventory account? Periodic? Perpetual? - Correct answer Periodic: NO Perpetual: Yes How is COGS calculated in periodic system? - Correct answer beginning inventory PLUS (+) the purchases MINUS (-) the ending inventory. One advantage and some disadvantages of periodic system. - Correct answer Advantage: the cost of implementing and maintaining a periodic system is lower than a perpetual system. Disadvantage: must depend on a physical count of inventory at the end of the accounting cycle to determine ending inventory. > Less timely, therefore less informative. > More susceptible to fraudulent activities, like stolen inventory. Journal entries to record the purchase and sale of inventory: Periodic, 3 steps - Correct answer 1. Record the purchase. DR: Purchases 845,000 CR: Accounts payable 845,000 2. Record the sale. DR: Accounts receivable 1,420,000 CR: Sales revenue 1,420,000 3. At the end of accounting cycle, record COGS. DR: Cost of goods sold 902,000 DR: Inventory (ending) 210,000 CR: Inventory (beginning) 267,000 CR: Purchases 845,000 Many firms use ____ to lower their tax liabilities in periods when prices are rising. - Correct answer LIFO Many companies use ___ for external reporting and income tax purposes, but maintain their internal records using ____ or ____. - Correct answer > Life > Fofo or average cost 2 Advantages of LIFO: - Correct answer 1. Matches more recent costs to current revenues - provides more accurate representation of the firm's gross profit/income. 2. During times of rising prices, reduces taxes paid. Disadvantages of LIFO: - Correct answer 1. Requires careful monitoring of inventory levels, which can be *costly*. ------If inventory levels drop, the cost of older inventory layers will have to be transferred to COGS. ------ An inventory liquidation increases current income and income taxes. What do creating LIFO inventory pools do? - Correct answer reduces the amount of bookkeeping and smoothest out fluctuations in LIFO layers from one year to the next. Dollar Value LIFO measures inventory based on... - Correct answers constant dollars rather than the physical quantity of goods in an inventory pool. >A new LIFO layer is established only when ending inventory at base-year prices exceeds the beginning inventory at base-year prices. What does the gross profit method rely on? - Correct answer historical gross profit ratio Information needed for Gross Profit Method (4) - Correct answer 1. Beginning inventory 2. Current period purchases 3. Current period sales 4. Historical gross profit percentage: (gross profit)/sales= (sales-COGS)/sales GP method: Estimate COGS = - Correct answer Sales * (1-gross profit percentage) GP: Estimated Ending Inventory = - Correct answer CGAS - COGS The Retail Inventory Method used to (2): - Correct answer 1. provide an estimate of ending inventory and COGS that's more accurate than the gross profit method. 2. convert physical ending inventory measured at retail, to an estimated cost. The Retail Inventory Method provides... - Correct answer a more accurate estimate than gross profit method because it's based on the current cost-to-retail % rather than a historical profit ratio. Retail Inventory Method (2 steps) - Correct answer 1. Cost to retail %: CGAS (cost)/ CGAS (retail) 2. Ending Inventory @ cost: Ending Inv (x) Cost to retail % Return on assets = - Correct answer Income / Total Assets How is MV different than BV? - Correct answer BV = assets - lab MV = she outstanding (x) price > Price forecasts future growth > MV captures intangible assets How do you calculate ending inventory at cost? - Correct answer Multiply the cost-to- retail % by the estimated ending inventory at retail (GAFS - Net sales) GP ratio = - Correct answer GP / sales Calculate the estimated cost of each of the toppings lost in the fire.... what do you do? - Correct answer figure out the value of ending inventory Assuming that the company reports an inventory write-down as a line item in the income statement, for each of the lower of cost and net realizable value applications determine the amount of the loss.... compare all the various total values, with what? - Correct answer Total cost Statement of Cash Flows... order entirely - Correct answer CF from operations: NET INCOME + Deep expel - Increase in A/R - Increase in inventory + increase in A/P - decrease in N/P ST (NET CF FROM OP) CF from investing: Sale of land, purchase of equip (Net Cash used/provided by inv) CF from financing: payment of cash dividends. Net increase/decrease in cash... Cash @ begin of year Cash @ end of year What is restricted cash reported as? - Correct answer Investments 5. Under the allowance method of recognizing uncollectible accounts, the entry to write off an uncollectible account A) decreases net income. B) has no effect on net income. C) increases the allowance for uncollectible accounts. D) has no effect on the allowance for uncollectible accounts - Correct answer B) has no effect on net income. 6. Which of the following is a characteristic of a perpetual inventory system? A) Inventory records are not kept for every item. B) Cost of goods sold is determined as the amount of purchases less the change in inventory. C) Inventory purchases are debited to a Purchases account. D) Cost of goods sold is recorded with each sale - Correct answer D) Cost of goods sold is recorded with each sale 7. Which inventory costing method most closely approximates current cost for each of the following? Ending Inventory ||| Cost of Goods Sold A) FIFO LIFO B) LIFO FIFO C) LIFO D) FIFO - Correct answer A) FIFO LIFO (the most current cost will go to COGS under LIFO, and ending inventory under FIFO) 8. The LIFO Conformity Rule states that if LIFO is used for: A. One class of inventory, it must be used for all classes of inventory. B. Tax purposes, it must be used for financial reporting. C. One company in an affiliated group, it must be used by all companies in an affiliated group. D. Domestic companies, it must be used by foreign partners. - Correct answer B. Tax purposes, it must be used for financial reporting. 9. When applying Lower Cost or Market method under US GAAP, designated market value.... - Correct answer is always the middle value of replacement cost, net realizable value, and net realizable value less a normal profit margin. 10. Which statement is not true about the gross profit method of inventory? valuation? A) It may be used to estimate inventories for annual statements. B) It may be used to test the reasonableness of an inventory valuation C) It may be used to estimate inventories for interim statements. D) None of these. - Correct answer A) It may be used to estimate inventories for annual statements On December 1, 2013, Davenport Company sold merchandise to a customer for $20,000. In payment for the merchandise, the customer signed a 6% note requiring the payment of interest and principal on March 1, 2014. How much interest revenue will the company recognize during 2013 and 2014? - Correct answer 2013 interest revenue: $20,000 × 6% × 1/12 = $100 2014 interest revenue: $20,000 × 6% × 2/12 = $200 On March 31, Dower Publishing discounted a $30,000 note at a local bank. The note was dated February 28 and required the payment of the principal amount and interest at 6% on May 31. The bank's discount rate is 8%. How much cash will Dower receive from the bank on March 31? - Correct answer Face amount $ 30,000 Interest to maturity ($30,000 × 6% × 3/12) 450 Maturity value 30,450 Discount ($30,450 × 8% × 2/12) (406) Cash precedes $ 30,044 Net purchases = - Correct answer Purchases (gross) - Purchase returns - Purchase discounts + Freight-in Cost of goods available for sale = - Correct answer Beginning inventory + Net purchases Cost of goods sold = - Correct answer Cost of goods available for sale - Ending inventory