Inventory Estimation
Physical count of inventory is costly and time-
consuming. As per usual, entities engaged in selling
large quantities of goods reasonably estimate the
value of their inventory at year-end using either gross
profit method or retail method.
Take note that inventory cost flow assumption is
different from inventory estimation whereas the latter
is used primarily when i) there are losses due to fire or
other catastrophies; ii) the entity is preparing interim
financial statements; and iii) it is necessary to estimate
inventory to prove correctness of physical count.
Gross Profit Method
Suppose a merchandise store was destroyed partially
by fire and there are remaining salable goods, to
reasonably estimate the amount of loss, follow the
series of computations.
Step 1: Compute for the cost of goods sold. By
computing the amount of cost of goods sold is to
reliably determine how much from your inventory
was not affected. Accordingly, there are two ways of
computing the said account: a) gross profit is explicitly
given; b) gross profit rate is only given
a) gross profit is explicitly given
b) gross profit rate is only given
Step 2: Compute for the correct amount of inventory
ending balance. By having this amount, difference
between the inventory on hand and the correct
amount of inventory will result to the estimated loss of
inventory.
Step 3: Compute for the estimated loss on inventory.
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Sample:
On August 28, 2018, super typhoon Mando cannot
shaken the walls of Kulas Hardware & Supplies for its
walls was strongly built into the ground. However, this
doesn't mean the store was unbreakable because the
night after a den of thieves broke into it and looted
large number of its inventories.
On August 31, 2018, a physical count showed that
only Php180,000.00 worth of construction supplies
were left. It has the following information based on its
accounting records:
Sales Php. 1,750,000
Sales Discounts ( 22,500)
Sales Discounts ( 22,500)
Sales Returns ( 50,000)
Net sales 1,677,500
Gross profit rate based on cost 60%
Inventory, 7/31 Php. 300,000
Purchases, gross 2,000,000
Purchase returns ( 70,000)
Purchase discount lost ( 40,000)
Net purchases 1,890,000
1. What is the amount of cost of good sold should
Kulas report for the month ended August 2018?
2. How much inventory should Kulas Hardware &
Supplies present in its statement of financial
position?
3. Compute for the estimated loss on inventory.
Computations:
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Retail Method
Retail Method
This method is used in cases where there is a wide
variety of goods where selling price is tagged to each
item. Retail price is also selling price.
To effectively employ the retail method, the following
information are required:
1. Beginning inventory at cost and at retail price
2. Purchases at cost and at retail price
3. Adjustments to the original retail price such as net
markups and net markdowns
4. Other adjustments such as departmental
transfer, estimated normal losses, and employee
discounts.
Step 1: Compute the goods available for sale @
cost and @ retail price. The resulting amounts for
each measurement shall serve as the numerator or
denominator in determining the percentage of cost in
the ending inventory at retail price.
Step 2: Compute for the sales after necessary
adjustments. This is reverting back the sales before
any employee discounts and normal shortages.
Step 3: Compute for the ending inventory @ retail
price.
Step 4: Compute the ending inventory for each retail
approach. Accordingly, there are three (3) retail
approaches, namely; conservative/conve tional,
average, and FIFO approach. Among them, average
approach is often used.
a) conservative/conventional approach
b) average approach (often used)
c) FIFO approach
☆ Estimated normal losses vs. Abnormal losses
Summary of approaches in the use of retail method
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Sample:
On September 30, 201a, Black Saint Merchandising
has the following information in its accounting
records:
(in thousands)
Cost/Retail
Cost/Retail
Inventory, 7/31/1a 1,200/1,530
Purchases 3,800/4750
Purchase discounts (76/95)
Purchase returns (150/195)
Purchase allowance (56/80)
Freight in 12
Departmental transfer credit (36/76)
Departmental transfer debit 40/50
Markup 15
Markup cancellation (5)
Markdown (14.5)
Markdown cancellation 6.125
Sales 4,800
Sales allowance (120)
Sales discount (116)
Sales returns (50)
Employee discounts (400)
Abnormal losses (34)
Estimated normal losses (50)
1. What is the inventory on September 31, 2018 if
the entity uses conservative approach?
2. What is the inventory on September 31, 2018 if
the entity uses average approach?
3. What is the inventory on September 31, 2018 if
the entity uses FIFO approach?
Computations:
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Non scholæ sed vitæ discimus.
Last modified: 8:37 PM
