Chapter 18, Problem 2BP

1.

To determine

Prepare its schedule of cost of goods manufactured for the year ended December 31, 2015.

Explanation of Solution

Cost of goods manufactured refers to the cost incurred for a making a product, that are available for sales at the end of the accounting period. Thus, cost of goods manufactured is determined as the sum of direct materials, direct labor, and factory overhead costs incurred in producing products.

Prepare schedule of cost of goods manufactured.

L COMPANY
Schedule of Cost of Goods Manufactured
For Year Ended December 31, 2015
Particulars	Amount ($)	Amount ($)
Direct materials
Raw materials inventory, December 31, 2014	$ 166,850
Raw materials purchases	925,000
Raw materials available for use	1,091,850
Less raw materials inventory, December 31, 2015	182,000
Direct materials used		$   909,850
Direct labor		675,480
Factory overhead
Depreciation expense—Factory equipment	33,550
Factory supervision	102,600
Factory supplies used	7,350
Factory utilities	33,000
Indirect labor	56,875
Miscellaneous production costs	8,425
Rent expense—Factory building	76,800
Maintenance expense—Factory equipment	35,400
Total factory overhead costs		354,000
Total manufacturing costs		1,939,330
Work in process inventory, December 31, 2014		15,700
Total cost of work in process		1,955,030
Less: Work in process inventory, December 31, 2015		19,380
Cost of goods manufactured		$1,935,650

Table (1)

Note:

1. 1. $\text{Total manufactuirng costs = Direct material used + Direct labor + Total factory overhead }$
2. 2. $\text{Total cost of work in process }=\left(\begin{array}{l}\text{Total manufacturing costs }\\ \text{+ Beginning work in process inventory}\end{array}\right)$
3. 3. $\text{Cost of goods manufactured = }\left(\begin{array}{l}\text{Total cost of work in process}\\ \text{ – Ending work in process inventory}\end{array}\right)$

2.

To determine

Prepare the company’s 2015 income statement that reports separate categories for (a) selling expenses and (b) general and administrative expenses.

Explanation of Solution

The income statement is a financial statement which reports revenues and expenses from business operations and the result of those operations as net income or net loss for a particular time period.

Prepare income statement for the year ended December 31, 2015.

L COMPANY
Income Statement
For Year Ended December 31, 2015
Particulars	Amount  ($)		Amount  ($)
Sales			4,462,500
Cost of goods sold
Finished goods inventory, December 31, 2014	167,350
Cost of goods manufactured	1,935,650
Goods available for sale	2,103,000
Less: Finished goods inventory, December 31, 2015	136,490
Cost of goods sold			1,966,510
Gross profit from sales			2,495,990
Operating expenses
Selling expenses
Advertising expense	28,750
Depreciation expense—Selling equipment	8,600
Rent expense—Selling space	26,100
Sales salaries expense	392,560
Total selling expenses			456,010
General and administrative expenses
Depreciation expense—Office equipment	7,250
Office salaries expense	63,000
Rent expense—Office space	22,000
Total general and administrative expenses			92,250
Total operating expenses			548,260
Income before taxes			1,947,730
Income taxes expense			233,725
Net income		1,714,005

Table (2)

3.

To determine

Compute the (a) inventory turnover, defined as cost of goods sold divided by average inventory, and (b) days’ sales in inventory.

Answer to Problem 2BP

Inventory turnover ratio and days’ sales in inventory is as below:

S.no	Particulars	Raw Materials	Finished Goods
(a)	Inventory turnover	5.2	12.9
(b)	Days’ sales in inventory	73.0		25.3

Table (3)

Explanation of Solution

Inventory turnover and days’ sales in inventory is calculated for raw materials and finished goods. In place cost of goods sold, raw materials inventory and finished goods inventory is used to determine the ratios.

Thus, calculation of average inventory is shown as below:

Particulars	Raw Materials	Finished Goods
Beginning inventory	166,850	167,350
Ending inventory	182,000	136,490
Total inventory	348,850	303,840
Average inventory	174,425	151,920

Table (3)

Note:

1. $\text{Total inventory = Beginning inventory + Ending inventory}$

2. $\text{Average inventory = }\frac{\text{Total inventory}}{2}$

Inventory turnover ratio: This is a financial measure that is used to evaluate as to how many times a company sells or uses its inventory during an accounting period. It is calculated by using the following formula:

$\text{Inventory}\text{turnover}\text{=}\frac{\text{Cost}\text{of}\text{goods}\text{sold}}{\text{Average inventory}}$

Days’ sales in inventory: Days’ in inventory is determined as the number of days a particular company takes to make sales of the inventory available with them.

$\text{Days'}\text{in}\text{inventory}\text{=}\frac{\text{Ending Inventory}}{\text{Cost of goods sold}}\times 365$

Next, determine inventory turnover and days’ sales in inventory as below:

S.no	Particulars	Raw Materials	Finished Goods
(a)	Inventory turnover	5.2	12.9
(b)	Days’ sales in inventory	73.0		25.3

Discussion:

• The determined inventory turnover ratio for the raw materials inventory is lower than the turnover ratio for the finished goods.
• The main reason for the difference might be because of undependability of the sources of raw material supply.
• Management has a larger inventory to make them sustain when there is a fall in inventory levels.
• Inventory levels of raw materials were too high that reduced the harming level in the operations.
• The items manufactured were so quickly sold in the market and thus, turnover ratio for the finished goods becomes higher. This evidently shows that the product is demanded at high level.