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home / study / questions and answers / math / geometry / jason tierro, an inventory clerk at lexmar company, ... Question Jason Tierro, an inventory clerk at Lexmar Company, is responsible for taking a physical count of the goods on hand at the end of the year. He has been performing this duty for several years. This year Jason was very busy due to a shortage of personnel at the company, so he decided to just estimate the amount of ending inventory instead of doing an accurate count. He reasoned that he could come very close to the true amount because of this past experience working with inventory. Besides, he was sure that the sophisticated computer program that Lexmar had just invested in kept an accurate count of inventory on hand. What is your opinion of Jason's reasoning? Why? If Jason underestimates the dollar amount of ending inventory, what effect will it have on net income for the current accounting period? Since the perpetual inventory system maintains an up-to-date balance in the general ledger account for Merchandise Inventory, is a physical inventory count still necessary? Why?
Explanation / Answer
Although Jason could have come very close to the true amount because of his past experience in working with inventory and his justification that the sophisticated computer program that Lexmar had just invested in kept an accurate count of inventory on hand might be true but still it can not be a substitue for physical count.
If Jason underestimates the dollar amount of ending inventory, the net income for the current accounting period will be showing less amount that is the net income will be reduced by the underestimated amount.
Since the perpetual inventory system maintains an up-to-date balance in the general ledger account for Merchandise Inventory, a physical inventory count is still necessary as is discussed below:
Unless we take a physical count, we might be unaware of damaged, missing or spoiled inventory.
Even worse, it is easier for dishonest managers to commit inventory fraud if there is no physical audit of item counts. The Internal Revenue Service insists that we take a physical inventory at “reasonable intervals” to re-establish the actual inventory. The IRS taxes us on our net income, which largely depends on gross profits: net sales minus cost of goods sold. A physical count accurately establishes ending inventory and thus COGS, enabling us and the IRS to correctly figure our taxable income.
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