The following transactions occur between the months of July and September 2011 — manager Kzinski Supply Corp has approached Koebel Family Bakery become exclusive Canadian

The manager of Kzinski Supply Corp. has approached Koebel’s Family Bakery to become the exclusive Canadian distributor of deluxe European mixers. Koebel’s will pay Kzinski for its purchases of mixers in Canadian dollars. However, Kzinski uses euros as its primary currency, which means that the purchase price converted to Canadian dollars will change each time a mixer is purchased. The current cost of a mixer is $550 and Koebel’s would propose to sell each mixer for $1,050. Natalie, Janet, and Brian believe that the mixers are top of the line and that, because these mixers are not available in Canada, many of their customers would be interested in purchasing this product.

Natalie believes that at the beginning of each month there should be at least three mixers in inventory. It takes approximately three weeks for the mixers to come from Europe and it is best to have an adequate supply of mixers on hand ready to be sold.

Currently, all inventory at Koebel’s is accounted for using the average cost formula in a perpetual inventory system. Natalie remembers that there is another cost formula, FIFO, that can be used to determine the cost of inventory. Because this is a new type of inventory, she wonders if FIFO would make the accounting a little easier and better reflect ending inventory and cost of goods sold.

The following transactions occur between the months of July and September 2011:

July 5 Three deluxe mixers are purchased on account and received from Kzinski Supply for $1,650 ($550 each), FOB destination, terms n/30.

14 One deluxe mixer is sold for $1,050 cash.

25 Amounts owing to Kzinski Supply from the July 5 purchase are paid.

August 2 One deluxe mixer is purchased on account and received from Kzinski Supply for $568, FOB destination, terms n/30.

29 Two deluxe mixers are sold for a total of $2,100 cash.

30 Amounts owing to Kzinski Supply from the August 2 purchase are paid.

September 6 Three deluxe mixers are purchased on account and received from Kzinski Supply for $1,692 ($564 each), FOB destination, terms n/30.

13 Three mixers are sold on account for a total of $3,150.

28 Amounts owing to Kzinski Supply from the September 6 purchase are paid.

October 4 Three deluxe mixers are purchased on account and received from Kzinski Supply for $1,722 ($574 each), FOB destination, terms n/30.

25 One deluxe mixer is sold for $1,050 cash.

Instructions

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(a) Prepare a perpetual inventory schedule, assuming use of the FIFO cost formula.

(b) Using the information you prepared in (a), prepare journal entries to record each transaction.

(d) Using the information you prepared in (c), prepare journal entries to record each transaction. (e) Calculate and comp are the gross profit margin, assuming the use of the (1) FIFO, and( 2) average cost formula.

(f) What guidelines should Natalie consider when deciding which inventory cost formula to use

SOLUTION

(a)

Mixer Inventory - FIFO
2011	Purchases	Purchases	Purchases	Cost of Goods Sold	Cost of Goods Sold	Cost of Goods Sold	Balance	Balance	Balance
Date	Units	Cost	Total	Units	Cost	Total	Units	Cost	Total
July 5	3	$550	$1,650				3	$550	$1,650
14				1	$550	$ 550	2	550	1,100
Aug. 2	1	568	568				2	550
							1	568	1,668
29				2	550	1,100	1	568	568
Sept. 6	3	564	1,692				1	568
							3	564	2,260
13				1	568
				2	564	1,696	1	564	564
Oct. 4	3	574	1,722				1	564
							3	574	2,286
25				1	564	564	3	574	1,722
Total	10		$5,632	7		$3,910	3		$1,722
(b)
July	5	Merchandise Inventory (3 × $550)		1,650
			Accounts Payable			1,650
	14	Cash			1,050
			Sales			1,050
		Cost of Goods Sold		550
			Merchandise Inventory			550
	25	Accounts Payable		1,650
			Cash			1,650
Aug.	2	Merchandise Inventory		568
			Accounts Payable			568
	29	Cash			2,100
			Sales			2,100
		Cost of Goods Sold (2 × $550)		1,100
			Merchandise Inventory			1,100
Aug.	30	Accounts Payable		568
		Cash		568
Sept.	6	Merchandise Inventory (3 × $564)		1,692
			Accounts Payable			1,692
	13	Accounts Receivable		3,150
			Sales			3,150
		Cost of Goods Sold [(1 × $568) + (2 × $564)]		1,696
			Merchandise Inventory			1, 696
	28	Accounts Payable		1,692
			Cash			1,692
Oct.	4	Merchandise Inventory		1,722
			Accounts Payable			1,722
	25	Cash			1,050
			Sales			1,050
		Cost of Goods Sold (1 × $564)		564
			Merchandise Inventory			564

(c)

Mixer Inventory - Average
2011	Purchases	Purchases	Purchases	Cost of Goods Sold	Cost of Goods Sold	Cost of Goods Sold	Balance	Balance	Balance
Date	Units	Cost	Total	Units	Cost	Total	Units	Cost	Total
July 5	3	$550	$1,650				3	$550	$1,650
14				1	$550	$ 550	2	550	1,100
Aug. 2	1	568	568				3	556	1,668
29				2	556	1,112	1	556	556
Sept. 6	3	564	1,692				4	562	2,248
13				3	562	1,686	1	562	562
Oct. 4	3	574	1,722				4	571	2,284
25				1	571	571	3	571	1,713
Total	10		$5,632	7		$3,919	3		$1,713
(d)
July	5	Merchandise Inventory (3 × $550)		1,650
			Accounts Payable			1,650
	14	Cash			1,050
			Sales			1,050
		Cost of Goods Sold		550
			Merchandise Inventory			550
	25	Accounts Payable		1,650
			Cash			1,650
Aug.	2	Merchandise Inventory		568
			Accounts Payable			568
	29	Cash			2,100
			Sales			2,100
		Cost of Goods Sold (2 × $556)		1,112
			Merchandise Inventory			1,112
	30	Accounts Payable		568
			Cash			568
Sept	6	Merchandise Inventory (3 × $564)		1,692
			Accounts Payable			1,692
	13	Accounts Receivable		3,150
			Sales			3,150
		Cost of Goods Sold (3 × $562)		1,686
			Merchandise Inventory			1, 686
	28	Accounts Payable		1,692
			Cash			1,692
Oct.	4	Merchandise Inventory		1,722
			Accounts Payable			1,722
	25	Cash			1,050
			Sales			1,050
		Cost of Goods Sold		571
			Merchandise Inventory			571

(e)

	FIFO		Average
Sales	$7,350	(1)	$7,350
Cost of goods sold	3,910		3,919
Gross profit	3,440		3,431
Gross profit margin	46.8%		46.7%
	(1) Sales = $1,050 + $2,100 + $3,150 + $1,050 = $7,350
(f)	Natalie should consider:

Whether the goods are interchangeable or not, or whether they are produced or segregated for specific projects;

Whether the method corresponds most closely to the physical flow of goods;

Whether the method reports inventory on the statement of financial position that is close to the inventory’s most recent cost; and

Whether the method is used for other inventories with a similar nature and usage.

For Natalie, the inventory of mixers consists of goods that are interchangeable. The nature of the items is not subject to a particular flow of goods so older mixers do not need to be sold first. Under the FIFO cost formula, the cost of the ending inventory is determined using the most recent costs and is closer to replacement cost. This may not necessarily be the case for the mixers because they are subject to currency fluctuations. The ending inventory cost may not match the replacement cost. Because of the currency fluctuations, it is also not possible to know if the cost will increase or decrease over time and what the impact of using FIFO will be on cost of goods sold. Under the average cost formula, the cost of the mixers will be averaged out and will smooth out the impact of the currency fluctuations. Since the mixers are identical and there is no issue of obsolescence, the average cost formula may better suit the type of inventory.