Pina Company began operations late in 2016 and adopted the conventional retail i

ID: 2562543 • Letter: P

Question

Pina Company began operations late in 2016 and adopted the conventional retail inventory method. Because there was no beginning inventory for 2016 and no markdowns during 2016, the ending inventory for 2016 was $14,066 under both the conventional retail method and the LIFO retail method. At the end of 2017, management wants to compare the results of applying the conventional and LIFO retail methods. There was no change in the price level during 2017. The following data are available for computations. Cost Retail Inventory, January 1, 2017 Sales revenue Net markups Net markdowns Purchases Freight-in Estimated theft $18,600 73,000 9,900 1,600 76,200 $14,066 62,900 4,700 1,900 Compute the cost of the 2017 ending inventory under both (a) The conventional retail method. (Round ratios for computational purposes to 0 decimal places, e.g. 78% and final answer to 0 decimal places, eg. 28,987.) Ending inventory using the conventional retail method (b) The LIFO retail method. (Round ratios for computational purposes to 0 decimal places, e.g. 78% and final answers to 0 decimal places, eg. 28,987.) Ending inventory at cost Ending inventory at retail Click if you would like to Show Work for this question:

Explanation / Answer

Conventional Retail method:

Retail

Beginning inventory $18600

Purchases $76200

Net Markups $9900

Net Markdowns $(1600)

Estimated theft $(1900)

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goods avilabel for sale $101200

sales of the year $ 73000

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Ending inventory at retail $28200

The second step in the retail inventory method is to convert the ending inventory at retail into a cost amount by the use of a cost-to-retail ratio. The numerator of this ratio is the cost of goods available for sale, which is equal to beginning inventory (at cost) plus purchases (at cost). The denominator of the ratio is the retail value of the goods available for sale. This is equal to beginning inventory (at retail) plus purchases (at retail) plus net markups (equal to markups less markup cancellations). Using only net markups in the cost-to-retail ratio (and excluding net markdowns) has the effect of approximating lower of average cost or market.

here is the calculation of cost to retail ratio

Cost Retail

Beginning inventory $14066

$18600

Purchases $62900

$76200

Markups

$9900

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$76966 $104700

Cost to retail ratio is 76966/104700= 73.51%

The third step in applying the retail inventory method is to multiply the ending inventory at retail by the cost-to-retail ratio. The resulting amount is an estimate of the ending inventory at the lower of average cost or market. The amount is 73.51*28200 = 2072982

LIFO Retail method

The retail inventory method can also be applied to companies using the LIFO cost flow assumption, and is known as the LIFO retail inventory method. The first step in the LIFO retail inventory method is to compute ending inventory at retail in the same way as was done for the conventional retail inventory method illustrated earlier.

The second step, the computation of the cost-to-retail ratio, is different under the LIFO retail inventory method. To see the reason for the difference, recall that under LIFO it is only necessary to compute the current year inventory layer. The current year layer is added to the beginning LIFO inventory amount to arrive at ending LIFO inventory. Since the LIFO computation focuses on the current year layer, the cost-to-retail ratio is computed using only current year purchases. The beginning inventory amount is ignored in the cost-to-retail ratio computation.

The numerator of the cost-to-retail ratio is purchases (at cost). The denominator is purchases (at retail) plus net markups less net markdowns. Both markups and markdowns are included in the denominator of the cost-to-retail ratio. Including net markdowns results in an estimate of LIFO cost rather than lower of cost or market. If a lower of cost or market writedown is required, it must be made after the computation of the LIFO inventory cost. Using the numbers from the previous example, the cost-to-retail ratio is computed as follows:

To compute average cost (rather than lower of average cost or market) markdowns and markdown cancellations would also be included in the denominator of the cost-to-retail ratio is

cost retail

opening inventory 14066 18600

purchases 62900 76200

markup 9900

markdown (1600)

theft (1900)

freight (4700)

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72266 103100

cost retail ratio 72266/103100 = 70.09%

The next step is to use a LIFO price index, similar to the price index used for dollar value LIFO, to deflate the ending inventory at retail to ending inventory at base year retail. Assume that the price index for the current year is 1.35. , the ending inventory at base year retail is equal to 28200/1.35=20888.88