7.10 Exercises

Exercise 7.1

Identify which of the following costs of a product manufacturer would be included in inventories:

• Salaries of assembly line workers
• Raw materials
• Salary of factory foreman
• Heating cost for the factory
• Miscellaneous supplies used in production process
• Salary of the CEO
• Costs to ship raw materials from the supplier to the factory
• Electricity cost for the factory
• Salaries of the sales team
• Depreciation of factory machines
• Property taxes on factory building
• Discounts for early payment of raw material purchases
• Salaries of the factory’s janitorial staff

---

Exercise 7.2

Complete the following table by identifying whether the seller (S) or the purchaser (P) is the appropriate response for each cell.

	FOB Shipping	FOB Destination
Owns the goods while in transit
Is responsible for the loss if goods are damaged in transit
Pays for the shipping costs

---

Exercise 7.3

Hasselbacher Industries Ltd. has fixed production overhead costs of $150,000. In a normal year, the company produces 100,000 units of product, which results in a fixed overhead allocation of $1.50 per unit.

Required:

1. If the company produces 105,000 units in a year, how much total fixed overhead should be allocated to the inventory produced?
2. If the company produces 30,000 units in a year, how much total fixed overhead should be allocated to the inventory produced?
3. If the company produces 160,000 units in a year, how much total fixed overhead should be allocated to the inventory produced?

---

Exercise 7.4

Segura Ltd. operates a small retail store that sells guitars and other musical accessories. During the month of May, the following transactions occurred:

Transactions	Number of Units	Cost per unit
Opening inventory May 1	8	$550
Purchase, May 5	50	$560
Purchase, May 8	10	$575
Sale, May 15	15
Purchase, May 22	12	$572
Sale, May 25	23
Closing inventory, May 31

Required:

Segura Ltd. uses a perpetual inventory system. Using the FIFO cost flow assumption, calculate the cost of goods sold for the month of May and inventory balance on May 31.

---

Exercise 7.5

Refer to the information in the previous question.

Required:

Assume that Segura Ltd. uses the moving average cost flow assumption instead. Calculate the cost of goods sold for the month of May and the inventory balance on May 31.

---

Exercise 7.6

The following chart for Severn Ltd. details the cost and selling price of the company’s inventory:

Description	Category	Cost ($)	Selling Price ($)
Brake pad #1	Brake pads	159	140
Brake pad #2	Brake pads	175	180
Total Brake pads		334	320
Soft tire	Tires	325	337
Hard tire	Tires	312	303
Total tires		637	640

Required:

1. Assume that grouping of inventory items is not appropriate in this case. Apply the lower of cost and net realizable value test and provide the required adjusting journal entry.
2. Assume that grouping of inventory items is appropriate in this case. Apply the lower of cost and net realizable value test and provide the required adjusting journal entry.

---

Exercise 7.7

Hawthorne Inc. identified the following inventory errors in 2020.

1. Goods were in transit from a vendor on December 31, 2020. The invoice cost was $82,000 and the goods were shipped FOB shipping point on December 27, 2020. The goods will be sold in 2021 for $135,000. The goods were not included in the inventory count.
2. On January 6, 2021, a freight bill for $6,000 was received. The bill relates to merchandise purchased in December 2020 and two-thirds of this merchandise was still in inventory on December 31, 2020. The freight charges were not included in either the inventory account or accounts payable on December 31, 2020.
3. Goods shipped to a customer FOB destination on December 29, 2020, were in transit on December 31, 2020, and had a cost of $27,000. When notified that the customer had received the goods on January 3, 2021, Hawthorne’s bookkeeper issued a sales invoice for $42,000. These goods were not included in the inventory count.
4. Excluded from inventory was a box labelled “Return for Credit.” The cost of this merchandise was $2,000 and the sale price to a customer had been $3,500. No entry had been made to record this return and none of the returned merchandise seemed damaged.

Required:

Determine the effect of each of the above errors on both the balance sheet accounts at December 31, 2020, and the reported net income for the year ended December 31, 2020 and complete the table below.

Item	Inventory	A/R	A/P	Net Income
A
B
C
D
Total

---

Exercise 7.8

Refer to the information provided in the previous question.

Required:

1. Assume the books are still open for 2020. Provide any required adjusting journal entries to correct the errors.
2. How would the adjustments change if the books are now closed for 2020?

---

Exercise 7.9

Wormold Industries suffered a fire in its warehouse on March 4, 2021. The warehouse was full of finished goods, and after reviewing the damage, management determined that inventory, with a retail selling price of $90,000, was not damaged by the fire.

For the period from January 1, 2021, to March 4, 2021, accounting records showed the following:

Purchases	$650,000
Purchase returns	16,000
Sales revenue	955,000

The inventory balance on January 1, 2021, was $275,000, and the company has historically earned a gross profit percentage of 35%.

Required:

Use the gross profit method to determine the cost of inventory damaged by the fire.

---

Exercise 7.10

Bollen Custom Automobile Mfg. reported the following results (all amounts are in millions USD):

	2020	2019
Sales	20,222	13,972
Cost of sales	17.164	11,141
Gross profit	3,058	2,831
Inventories at year end	2,982	1,564

Inventories at the end of 2018 were $1,239.

Required:

Using the data above, analyze the profitability and efficiency of the company with respect to its core business activities. Provide any points for further investigation that your analysis reveals.

---

Exercise 7.11

Thames Corporation has the following items in its ending inventory:

Item	Cost	Selling Price	Disposal Costs
DWE223	$1,950	$2,230	$99
CWQ103	5,120	4,960	112
BMA112	4,280	4,615	225
AAW102	3,965	4,430	91

Required:

Assume that Thames is a company that follows IFRS. Determine the total value of ending inventory, using the lower of cost and net realizable value model applied on an individual item basis. Prepare any required journal entry.

---

Exercise 7.12

Highbury Manurfactuing Company is a public company that follows IFRS.

On November 10, Y5, Highbury signed a long-term, non-cancellable purchase commitment with a major supplier of raw materials. The agreed upon cost of the materials is $3,456,900.

At December 31, Y5 the raw materials to be purchased in Y6 have a market price of $3,057,600.

Required:

Prepare the appropriate journal entry at December 31, Y5. What entry would be made in Y6?

---

Exercise 7.13

Windy Corporation recently had a fire in their warehouse. All of the merchandise in the warehouse was destroyed.

The following information is available:

Required:

1. For insurance purposes, calculated the ending inventory using the gross margin method.
2. Rather than estimated gross margin at 30%, assume that the markup on cost is 30% to determine estimated inventory.

---

Exercise 7.14

Lucan Enterprises made the following inventory errors during the current year.

Each error is an independent case.

1. Ending inventory is overstated by $5,300, purchases were recorded correctly.
2. Ending inventory is correct, but a purchase on account was not recorded.
3. Both ending inventory and a purchase on account are understated by $3,890.

Required:

Show the effect, for the current year, of each error on:

1. Working capital
2. Current ratio
3. Retained earnings
4. Net income