Estimate the cost of the ending inventory and the cost of sales using the gross
ID: 2392488 • Letter: E
Question
Estimate the cost of the ending inventory and the cost of sales using the gross margin method. Show all calculations Required: Solution XA8-20 Gross Margin Method: The manager of Seaton Books Ltd., a book retailer, requires an estimate of the inventory cost for a quarterly financial report to the owner on 31 March 20X5. In the past, the gross margin method was used because of the difficulty and expense of taking a physical inventory at interim dates. The company sells both fiction and nonfiction books. Due to their lower turnover rate, nonfiction books are typically marked up to produce a gross profit of 37.5%. Fiction, on the other hand, generates a 28.6% gross profit. The manager has used the average gross profit of 33.333% to estimate interim inventories. v. You have been asked by the manager to estimate the book inventory cost as of 31 March 20X5. The following data are available from Seaton's accounting records:Explanation / Answer
1. Gross Margin Method on Combined Fiction and Nonfiction books:
Gross Profit Margin = 33.333%
Combined Sales = $750,000
Cost of goods sold = $750,000 x (100 - 33.33)% = $500,000
Ending Inventory = Beginning Inventory + Purchases + Freight-in - Cost of Goods Sold
= $140,000 + $800,000 + $7,000 - $500,000
= $947,000 - $500,000
= $447,000
Ending Inventory with this is $447,000 which is combined of fiction and nonfiction books.
2. Gross Margin Method based on Fiction and Nonfiction seperately:
Fiction:
Sales = $590,000
Gross Profit Margin = 28.6%
Cost of Goods Sold = $590,000 (100 - 28.6)% = $421,260
Ending Inventory = Beginning Inventory + Purchases + Freight-in - Cost of Goods Sold
= $100,000 + $600,000 + $5,000 - $421,260
= $705,000 - $421,260
= $283,740
Nonfiction:
Sales = $160,000
Gross Profit Margin = 37.5%
Cost of Goods Sold = $160,000 (100 - 37.5)% = $100,000
Ending Inventory = Beginning Inventory + Purchases + Freight-in - Cost of Goods Sold
= $40,000 + $200,000 + $2,000 - $100,000
= $242,000 - $100,000
= $142,000
Total Ending Inventory = $283,740 + $142,000 = $425,740
3. In this situation, gross margin method applied separately to fiction and nonfiction books is preferable. This is estimation method, it is better to estimate separately and the inventory value also differs because of different gross profit margins for the fiction and nonfiction books. This method would be more accurate than the gross margin applied on its combined inventory.
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