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18. Is the reversal of an inventory write-down permitted under U.S. GAAP (generally accepted accounting principles) and International Financial Reporting Standards (IFRS)?

A. No, under both

B. Yes, under both

C. Yes under IFRS but not under U.S. GAAP

  
  Ans: C.

The reversal of an inventory write-down is permitted under IFRS but not under U.S. GAAP.

Under IFRS, inventory is reported on the balance sheet at the lower cost or net realizable value. Net realizable value is equal to the expected sales price less the estimated selling costs and completion costs. If net realizable value is less than the balance sheet value f inventory, the inventory is “write down” to net realizable value and the loss is recognized in the income statement. Is there is a subsequent recovery in value, the inventory can be “write up” and the gain is recognized in the income statement by reducing COGS by the amount of the recovery. Because inventory is valued at the lower of cost or net realizable value, inventory cannot be written up by more than it was previously written down.

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17. During the past year, a company’s production facility was operating at 75% of capacity. The firm’s costs were as follows: $ millions Fixed production overhead costs 3 Raw materials costs 6 Labor costs 4 Freight-in costs for raw materials 1 Warehousing costs for finished goods 2 The firm ended the year with no remaining work-in-process inventory. The total capitalized inventory cost (in $ millions) for the year is closest to: A. 13.25. B. 15.25. C. 16.00.

Ans: A. $ millions Fixed Production Costs: 75% of capacity: 75% x $3 2.25 Raw materials 6.00 Labor Costs 4.00 Freight In 1.00 Total Capitalized Inventory Cost 13.25

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16. Due to global oversupply in the micro-chip industry a company wrote down its 2012 inventory by €4.0 million from €12.0 million. The following year, due to a change in competitive forces in the industry the market price of these chips rose sharply to 10% above their original 2012 value. If the company prepares its financial statements in accordance with International Financial Reporting Standards (IFRS), its 2013 inventory (in €-millions) will most likely be reported as:

A. 8.0.

B. 12.0.

C. 13.2.

  

  

  
  Ans: B.

Although IFRS does require write-downs, it also allows revaluations, but not to exceed the original value, i.e., 12. The exception to this, where gains are allowed, is in producers of agricultural, forest and resource products.

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15.  A company, which prepares its financial statements in accordance with IFRS is in the process of developing a more efficient production process for one of its primary products. The most appropriate accounting treatment for those costs incurred in the project is to:

A. expense them as incurred.

B. capitalize costs directly related to the development.

C. expense costs until technical feasibility has been established.

  
  Ans: C.

Under IFRS research and development costs are expensed until certain criteria are met, including that technical feasibility has been established and the company intends to use it.

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14. In a period of rising prices, when compared to a company that uses weighted average cost for inventory, a company using FIFO will most likely report higher values for its:

  

A. return on sales.

B. debt-to-equity ratio.

C. inventory turnover.

  
  Ans: A.

In periods of rising prices FIFO results in a higher inventory value and a lower cost of goods sold and therefore a higher net income. The higher net income increases return on sales.

  

B is incorrect. The higher reported net income also increases retained earnings, and therefore results in a lower debt-to-equity ratio not a higher one.

  

C is incorrect. The combination of higher inventory and lower cost of goods sold decreases inventory turnover (CGS/inventory).

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13. A review of a company’s inventory records for the year indicates that the following costs were incurred:

Fixed production overhead:                          $500,000

Direct material and direct labor:                    300,000

Storage costs incurred during production:     25,000

Abnormal waste costs:                                       30,000

If the company operated at full capacity during the year, the total capitalized inventory cost is closest to:

A. $800,000.

B. $825,000.

C. $855,000.

  

  
  Ans: B.

The total capitalized costs include fixed production costs, the direct conversion costs of material and labor, storage costs required as part of production but not abnormal waste costs. $500,000 + 300,000 + 25,000 = $825,000.

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12. A U.S. pulp brokerage firm which prepares its financial statements according to U.S. GAAP and uses a periodic inventory system had the following transactions during the year: Date Activity Tons (000s) $ per Ton Beginning inventory 1 600 February Purchase 5 650 May Sale 2 700 August Purchase 3 680 November Sale 4 750 The cost of sales (in ‘000s) is closest to: A. $3,850 using FIFO. B. $4,080 using LIFO. C. $5,890 using weighted average.

Ans: A. COGS Weighted Average CGS FIFO CGS LIFO Available for sale Units (‘000s) Cost $ Total cost ($ 000s) Units sold Total cost ($ 000s) Units sold Total cost ($ 000s) 1 600 600 1 x 600 600 3 x 680 2,040 5 650 3,250 5 x 650 3,250 3 x 650 1,950 3 680 2,040 9 CGAS $5,890 Cost of sales $3,850 Cost of sales $3,990 Unit Cost $5,890/9 = $654.44 Cost of sale WA $654.44 x 6 = $3,926

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11. A company which prepares its financial statements using IFRS wrote down its inventory value by €20,000 in 2009. In 2010, prices increased and the same inventory was worth €30,000 more than its value at the end of 2009. Which of the following statements is most accurate? In 2010, the company’s cost of sales: A. was unaffected. B. decreased by €20,000. C. decreased by €30,000.

Ans: B. Under IFRS, inventory is reported on the balance sheet at the lower cost or net realizable value. Net realizable value is equal to the expected sales price less the estimated selling costs and completion costs. If net realizable value is less than the balance sheet value f inventory, the inventory is “write down” to net realizable value and the loss is recognized in the income statement. Is there is a subsequent recovery in value, the inventory can be “write up” and the gain is recognized in the income statement by reducing COGS by the amount of the recovery. Because inventory is valued at the lower of cost or net realizable value, inventory cannot be written up by more than it was previously written down. In this question, the recovery of previous write-down is limited to the amount of the original write-down (€20,000) and is reported as a decrease in the cost of sales.

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10. Compared with using the FIFO method to account for inventory, during a period of rising prices, which of the following ratios is most likely higher for a company using LIFO?

A. Current ratio

B. Gross margin

C. Inventory turnover

  
  Ans: C.

During a period of rising prices, ending inventory under LIFO will be lower than that of FIFO and cost of goods sold higher; therefore, inventory turnover (CGS/average inventory) will be higher.

Reference: question No. 1.

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9. A company incurs the followings costs related to its inventory during the year: Cost ￥ millions Purchase price 100,000 Trade discounts 5,000 Import duties 20,000 Shipping of raw materials to manufacturing facility 10,000 Manufacturing conversion costs 50,000 Abnormal costs as a result of waste material 8,000 Storage cost prior to shipping to customers 2,000 The amount charged to inventory cost (in millions) is closest to: A. ￥175,000. B. ￥177,000. C. ￥185,000.

Ans: A. The costs to include in inventories are all costs of purchase, costs of conversion, and other costs incurred in bringing the inventories to their present location and condition. Cost ￥ millions Purchase price 100,000 Less Trade discounts (5,000) Import duties 20,000 Shipping of raw materials to manufacturing facility 10,000 Manufacturing conversion costs 50,000 Total inventory costs 175,000