Explain how to determine inventory valuation and the methods used to determine the cost of goods on hand. What is the difference between a physical inventory system and a perpetual inventory system? What costs are assigned to merchandise inventory? Explain the following methods to determine inventory valuation: FIFO, LIFO, and the Average Cost.
The response should be about 500 words with numerical examples.
Inventory Costing Methods
A company can keep track of its inventory in two ways, perpetual and periodic. In a perpetual inventory system, companies keep detailed records of the cost of each inventory purchase and sale. The records continuously, perpetually, show the inventory that should be on hand for every item.
In a periodic inventory system, companies do not keep detailed inventory records of the goods on hand throughout the period. Instead, they determine the cost of goods sold only at the end of the accounting period, that is, periodically. At that point, the company takes a physical inventory count to determine the cost of goods on hand.
To determine the cost of goods on hand at the beginning of the accounting period, the following steps are necessary:
1. Determine the cost of goods on hand at the beginning of the accounting period.
2. Add to it the cost of goods purchased.
3. Subtract the cost of goods on hand at the end of the accounting period.
No matter whether they are using a periodic or perpetual inventory system, all companies need to determine inventory quantities at the end of the accounting period. When using a perpetual system, companies take a physical inventory for two purposes: the first purpose is to check the accuracy of ...
This solution is comprised of a detailed explanation to help accounting students understand how inventory valuation is determined. It explains the difference between a physical inventory system and a perpetual inventory system. Three methods used to determine inventory cost are explained and compared; FIFO, LIFO, and the Average Cost methods. An example of each method is given along with step-by-step calculations. The accounting principle of consistency is also discussed because it has special relevance to inventories.