ReSA - THE REVIEW SCHOOL OF ACCOUNTANCY FARAP-4803

CPA Review Batch 48  October 2024 CPA Licensure Examination

FINANCIAL ACCOUNTING & REPORTING / AUDITING PRACTICE S. IRENEO  G. MACARIOLA  C. ESPENILLA  J. BINALUYO

INVENTORIES
Definition of inventories -these are assets that are (1) Held for sale in the normal course of business, or (2) In the
process of production for such sale, or (3) In the form of materials or supplies to be consumed in the production process
or in rendering of services

Measurement of inventories
A. Initial measurement –at historical cost, which includes all costs of purchase, costs of conversion and other costs
incurred in bringing the inventories to their present location and condition.
The following are excluded from the cost of inventories:
a. Abnormal amounts of wasted materials, labor, or other production costs
b. Storage costs (unless these costs are necessary in the production process prior to a further production)
c. Administrative overheads (no contribution to bringing inventories to their present location and condition)
d. Selling costs
B. Measurement at Reporting Date- should be measured at the lower of cost and net realizable value.
The net realizable value is the estimated selling price in the course of the business less the estimated cost of
completion and the estimated costs necessary to make the sale. Inventories are usually written down to net
realizable value on an individual basis. However, in the circumstance where items of inventory relate to the
same product line, have similar purposes and uses, and are produced and marketed in the same geographical
area, the group of similar items basis may be more appropriate. Whichever basis is used shall be consistently
applied.
Materials and other supplies held for use in the production of inventories are not written down below cost if the
finished products in which they will be incorporated are expected to be sold at cost or above cost. However,
when a decline in the price of materials indicates that the cost of the finished products exceeds net realizable
value, the materials are written down to net realizable value. In such circumstances, the replacement cost of
the materials may be the best available measure of their net realizable value
If there is clear evidence of an increase in net realizable value because of change in economic condition the
amount of the previous write-down should be reversed. The amount of reversal should not exceed the original
amount of write-down that was recognized previously.
The cost formulas for inventory:
The cost of inventory that are not ordinarily interchangeable and goods or services produced and segregated for
specific projects shall be assigned using specific identification of their individual costs. The cost of inventories that
are ordinarily interchangeable shall be assigned by using the FIFO or weighted average method. An entity shall
use the same cost formula for all inventories having a similar nature and use.

Establishment of the year-end inventory – a physical count is done at reporting date. Included in the
physical count are inventories owned and controlled by the enterprise that are in good, usable and salable
condition. Items to consider are:
a. Merchandise in transit – if the term of shipment is shipping point, include as inventory of the buyer but if the
term is destination, include as inventory of the seller.
b. Goods on consignment – include as inventory of the consignor.
c. Sales on approval – include as inventory of the seller
d. Special sales contract:
1. Product-financing (Sale with a buyback agreement) – also known as a park sale because the seller parks
(transfers) its inventory in the buyer’s premises thru sales contract that clearly specifies to purchase back
the same inventory over a specified period of time at a specified amount. Include as inventory of the seller.
2. Sale but buyer is given the right to return –considered as sale if all the following conditions are met: (a)
the seller’s price to the buyer is substantially fixed or determinable at the date of sale, (b) the buyer has
paid the seller, or the buyer is obligated to pay the seller and the obligation is not contingent on resale of
the product, (c) the buyer’s obligation to the seller would not be changed in the event of theft or physical
destruction or damage of the product, (d) the buyer acquiring the product for resale has economic substance
apart from that provided by the seller, (e) the seller does not have significant obligations for future
performance , and (f) the amount of future returns can be reasonably estimated.
3. Installment sales – goods should be considered sold or removed from inventory, even though legal title has
yet to pass to the buyer.
e. Segregated goods – mere segregation does not exclude such inventory, however, if the segregation is due to
sales contract such as special order, such inventory is excluded in the inventory of the seller.
Inventory Estimation Methods:
When inventory items cannot be physically counted because they may have been lost or when these are
presented in the interim financial statements, the value of the inventory may be estimated using:
1. Gross Profit Method – The estimated cost of ending inventory is computed as follows:
Beginning Inventory Pxxx
Add Net Purchases xxx
Cost of Goods Available for Sale Pxxx
Less Estimated Cost of Goods Sold:
If GP is Based on Sales: (Sales - Sales Returns) x (100% - GP%)
If GP is Based on Cost: (Sales – Sales Returns) / (100% + GP%) xxx
Estimated Cost of Ending Inventory Pxxx
2. Retail Inventory Method
The retail method is often used in the retail industry for measuring inventories of large numbers of
rapidly changing items with similar margins for which it is impracticable to use other costing methods.
The cost of inventory is determined by reducing the sales value of the inventory by the appropriate
percentage of gross margin. The estimated cost of ending inventory is computed as follows:

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ReSA – THE REVIEW SCHOOL OF ACCOUNTANCY
INVENTORIES
FARAP-4803
Cost Retail FIFO % Average %
Beginning Inventory Pxxx Pxxx
Purchases xxx xxx
Freight-in xxx
Purchase Returns (xxx) (xxx)
Purchase Allowances (xxx)
Purchase Discounts (xxx)
Additional Mark-ups, Net of Mark-up Cancellations xxx
Markdowns, Net of Markdown Cancellations (xxx)
Departmental Transfers In xxx xxx
Departmental Transfers Out (xxx) (xxx)
Abnormal Losses (xxx) (xxx)
Totals, Excluding Beginning Inventory Pxxx Pxxx xx%
Total Cost of Goods Available for Sale Pxxx Pxxx xx%

Sales Less Sales Returns only (xxx)

Employee Discounts xxx
Normal Losses (xxx)
Ending Inventory Pxxx
Multiply by Cost ratio xx%
Estimated Ending Inventory at Cost Pxxx

FINANCIAL ACCOUNTING AND REPORTING - THEORIES

1. Which of the following would be considered as inventoriable cost?
a. Foreign exchange differences arising from acquisition of inventories using a foreign currency
b. Storage cost necessary on goods which are still in process
c. Import duties and refundable purchase taxes
d. Abnormal amounts of wasted materials, labor and overhead
2. Which of the following would not be reported as inventory?
a. Goods out on consignment
b. Goods in transit sold under FOB Destination
c. Goods in transit purchased under FOB Seller
d. Goods purchased under a buyback agreement
3. Which of the following is true about consigned inventory?
a. Goods that are shipped, and title has transferred to the receiver
b. Goods that are sold, but payment is not required until the goods are sold
c. Goods that are shipped, but title remains with the shipper
d. Goods that have been segregated for shipment to a customer
4. Freight and other handling charges incurred in the transfer of goods from consignor to consignee are
a. Considered Expense on the part of the consignee
b. Considered Expense on the part of the consignor
c. Inventoriable by the consignee
d. Inventoriable by the consignor
5. Which of the following would result to a decrease in accounts receivable in the books of the seller and a decrease
in accounts payable in the books of the buyer in a sales transaction on account?
a. FOB Destination, freight prepaid c. FOB Shipping point, freight prepaid
b. FOB Destination, freight collect d. FOB Shipping point, freight collect
6. The use of a “Purchase Discount Lost” account implies that the recorded cost of a purchased inventory is the
a. invoice price.
b. invoice price plus the purchase discount lost.
c. invoice price less the purchase discount taken.
d. invoice price less the purchase discount allowable whether taken or not.
7. When using the moving average method of inventory valuation, a average cost changes after each
a. Sales on account c. Purchase of inventory.
b. Purchase and Sale of inventory d. Cash Sale
8. Which of the following cost formulas will report the highest net income in periods of inflation?
a. Fist-in first-out c. Weighted average
b. Moving average d. Last-in last-out
9. Inventories should be measured at
a. Cost or net realizable value, whichever is higher
b. Cost or fair value less cost to sell, whichever is lower
c. Lower of cost or net realizable value, item by item
d. Lower of cost or net realizable value, by classification
10. Net realizable value (NRV) is computed as 000000
a. Estimated selling price less estimated cost to sell
b. Estimated selling price less estimated cost to complete
c. Estimated selling price less estimated cost to complete and estimated cost to sell
d. Estimated selling price less estimated cost to complete, estimated cost to sell and normal profit
margin
11. Which of the following is true about direct method of accounting for write-down of cost of inventories to net
realizable value?
a. Inventories shall be stated at cost
b. Inventories shall be stated at net realizable value
c. A loss on inventory write-down and allowance account are recognized
d. Any write-down of inventories to NRV decreases Cost of Goods Sold

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ReSA – THE REVIEW SCHOOL OF ACCOUNTANCY
INVENTORIES
FARAP-4803
12. Which will not require inventory estimation?
a. Inventory destroyed by a major fire incident in the production facility
b. Proof of the reasonable accuracy of the physical inventory count
c. Interim financial reporting
d. Annual financial reporting
13. What is the treatment of inventory normal spoilage under the FIFO retail method?
a. Included in the computation of cost ratio
b. Deducted from sales
c. Deducted from goods available for sale at cost
d. Deducted from goods available for sale at retail
14. The retail inventory method includes all of the following in the calculation of the goods available for sale at both
cost and retail. Which should be added for the purpose of computing the cost ratio?
a. Departmental transfer-credit c. Departmental transfer-debit
b. Purchase returns d. Abnormal shortage
15. The retail inventory method includes all of the following in the calculation of the goods available for sale at both
cost and retail, except:
a. Freight in c. Departmental transfer-in
b. Purchase returns d. Abnormal shortage
16. The cost ratio computed under FIFO retail inventory method includes
a. Net markups but not markdowns
b. Net markdowns but not markups
c. Net markups and markdowns for purchases only
d. Net markups and markdowns for both purchases and opening stock
17. To produce an inventory valuation which approximates the lower of cost or market using the conventional retail
inventory method, the computation of the ratio of cost to retail should
a. Include markups but not markdowns. c. Ignore both markups and markdowns.
b. Include markups and markdowns. d. Include markdowns but not markups.
18. What will be the effect if the current year’s ending inventory amount is understated?
a. Cost of goods sold will be understated. c. Net income will be overstated.
b. Gross profit will be understated. d. Retained earnings will be overstated.

FINANCIAL ACCOUNTING AND REPORTING & AUDIT PRACTICE - PROBLEMS

Problem 1: The inventories on hand at December 31, 2023 of Keno Inc. were valued at cost amounting to
P700,000. Mark-up on sales is 25%. The following items were excluded from these inventories:
1. Goods purchased FOB Destination. Invoice price was P30,000. Freight costs P3,000. Goods were received
on December 30.
2. Purchased goods in-transit as of December 31, 2023. Invoice price P50,000. Freight costs P4,000. Freight
term was FOB Shipping Point.
3. Goods sold to Gino Company shipped FOB Destination on December 28, Sales price was P80,000. Freight
costs P4,000. The goods were received by Gino Company on January 2 of the following year.
4. Goods sold to Madelyne Corp. shipped FOB Destination on December 30. Sales price was at P100,000.
Freight costs P5,000. The goods were received by Madelyne Corp. on December 31.
5. Goods out on consignment to Pryor Co., Sales price was P90,000. Freight costs to deliver the goods to
consignee P5,000. 60% had been sold by the consignee. Freight cost to consignees customers P4,000.
6. Goods purchased costing P30,000, in transit “Free Along Side the Vessel” on December 31, and arrived
in Kendo Company’s premises on January 2. Cost to transfer goods from seller to the vessel, P1,000.
Freight cost, P2,000.
7. Goods costing P15,000 from a supplier on Dec. 26, shipped “Cost, Insurance and Freight” on Dec. 28,
but had not been received by the end of December. Costs of insurance and freight were at P3,000.
How much is the correct cost of inventories to be reported in Kendo Company’s SFP as of December 31?
a. 905,000 b. 920,000 c. 903,000 d. 923,000

Problem 2: Logan Company is selling a variety of products. The following items were included in its inventory
balance of P850,000 as of December 31, 2023:
1. An inventory sold for P15,000 on an instalment basis on December 10. The inventories costing P10,000
was delivered on the same day. The legal title has been transferred upon sale. The company’s experience
suggests that full payment on instalment sales is reasonably assured/probable.
2. The entity sold goods worth P150,000 (costing P80,000) under a “lay away” sales arrangement at year-
end. Payments are to be made on a monthly basis for 12 months.
3. A customized product, fabricated to order for a particular customer, was completed at a total cost of
P65,000 and in the shipping room on December 31. Although it was shipped on January 5, the customer
was billed on December 31 at sale price P120,000. The agreement is under “bill and hold” arrangement.
4. Logan Company launched and sold a new product in the market on December 25. The contract provides
that the customers have 30 days to try the product without any commitment to pay. The total sales
recognized was P250,000 while cost of sales was P175,000. As of year-end, none of the customers
returned nor confirmed their purchases.
5. Goods costing P65,000 were sold for P100,000 and delivered to a customer on December 29. The sales
transaction has a repurchase agreement which requires the entity to buy back the inventory on January
15, at P100,000 plus 12% interest.
6. Goods costing P35,000 were sold for P50,000 and were delivered to a customer on December 30. The
repurchase agreement which states that the entity has an obligation to repurchase the asset at the
customer’s request at a price that is lower than the original selling price of the asset on January 30. The
agreement still provides the customer a significant economic incentive to exercise that right.

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ReSA – THE REVIEW SCHOOL OF ACCOUNTANCY
INVENTORIES
FARAP-4803
How much is the correct amount of inventory that should report in its SFP on December 31?
a. 660,000 b. 775,000 c. 800,000 d. 840,000

Problem 3: On December 1, 2023, Slim Corp. consigned 100 air-conditioning units at a unit cost of P25,000 to
Scott Company and to be sold for P40,000 each. Slim Company paid P50,000 in transportation cost. On
December 31, Scott Company reported the sale of 40 air-conditioning units and the return of 20 units. Cost paid
by the Scott Company on the returned units was P5,000. The amount due to consignor is yet to be remitted by
the balance sheet date. Commission rate as agreed upon was 10%.
Which of the following statements is true?
a. Slim should include in its SFP P1,020,000 inventory and P1,760,000 receivable from consignee.
b. Slim should include in its SCI P420,000 consignment net income.
c. Scott should include in its SFP P1,020,000 inventory and P1,710,000 payable to the consignor.
d. Scott should include in its SCI P160,000 commission income.

PROBLEM 4: (AUDIT PRACTICE - SALES CUT-OFF)

You are engaged to perform an audit of the accounts of Patron Company for its first year of operations ending
December 31, 2023. You have observed the taking of the physical inventory of the company on December 30,
2023. As a result, all goods delivered on or before December 30, 2023 were excluded from the physical count.
An excerpt of the company’s trial balance revealed the following information:
Accounts receivable P527,000
Inventory, physical count 327,000
Sales 5,749,000
Purchases 2,125,000
The following were the sales invoices recorded in the sales journal several days before and several days after
December 31, 2023. All purchases were correctly recorded.
DECEMBER 2023 SALES JOURNAL ENTRIES
Invoice # Selling Price Cost Date of Shipment Freight term and other remarks
20122 14,500 8,200 December 27, FOB Destination
20123 3,000 2,000 December 28, FOB Shipping Point, in Transit
20124 25,000 15,000 December 29, Shipped to consignee, 60% unsold by consignee as
per consignee report. Commission at 10% of sales.
20125 7,000 4,600 December 30, FOB Destination, in Transit
20126 12,000 8,000 December 31, FOB Buyer’s Warehouse, in Transit
20127 8,000 4,000 December 31, Free Alongside the Vessel, in transit to the buyer
20128 4,000 2,400 January 2, FOB Shipping Point
JANUARY 2024 SALES JORNAL ENTRIES
Invoice # Selling Price Cost Date of Shipment Freight term and other remarks
20129 6,000 3,800 December 30, FOB Destination, in Transit
20130 8,000 5,800 December 31, FOB Shipping Point, in Transit
20131 7,600 4,800 January 2, FOB Shipping Point
20132 9,600 6,200 January 2, Under bill and hold agreement executed in December

What are the adjusted balances of the following?

1. Sales
2. Accounts Receivable
3. Inventories

PROBLEM 5: (AUDIT PRACTICE - SALES AND PURCHASES CUT-OFF)

You have been engaged to audit Sputnik Company for the year ended December 31, 2023. The Company sells at
30% GP based on sales. Portions of the client’s sales and purchases accounts for the calendar year 2023 follow:
Sales
DECEMBER SALES JOURNAL
Date Reference Amount Date Reference Amount
12/31 Closing entry 5,313,000 Balance Forwarded 4,910,000
12/26 SI # 706 90,000
12/27 SI # 707 60,000
12/28 SI # 708 80,000
12/28 SI # 709 50,000
12/31 SI # 710 40,000
12/31 SI # 711 45,000
12/31 SI # 712 38,000
P 5,313,000 P 5,313,000
JANUARY SALES JOURNAL
Date Reference Amount Date Reference Amount
1/02/24 SI # 713 120,000
1/02 SI # 714 52,000
1/03 SI # 715 60,000
1/05 SI # 716 40,000

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ReSA – THE REVIEW SCHOOL OF ACCOUNTANCY
INVENTORIES
FARAP-4803
Purchases
DECEMBER PURCHASES JOURNAL
Date Reference Amount Date Reference Amount
Balance forwarded P 2,200,000 12/31 Closing entry P 2,735,000
12/28 RR # 903 100,000
12/30 RR # 905 110,000
12/31 RR # 906 150,000
12/31 RR # 907 175,000
P 2,735,000 P 2,735,000
JANUARY PURCHASES JOURNAL
Date Reference Amount Date Reference Amount
1/02/24 RR # 908 89,000
1/02 RR # 909 100,000
1/02 RR # 910 76,000
1/03 RR # 911 95,000
1/04 RR # 912 75,000

NOTE: ‘RR’ is Receiving Report and ‘SI’ is Sales Invoice

You observed the physical inventory count in the warehouse on December 31, 2023 and were satisfied that it
was properly taken. Per cut-off tests, the last sales invoice with actual shipment of goods was No. 711
and the last receiving report used was No. 908 (for which goods were physically received). The
following additional information were gathered:
1. Included in the physical inventory were goods purchased and received on receiving report No. 904 but
the corresponding invoice document was received on January 3. Cost is P76,000.
2. In the warehouse on December 31, were goods covered by the sales invoice No. 706. Since the customer
has already advanced the payment for these goods, these were no longer included in the physical
inventory count.
3. The company uses the railroad facilities of PNR for its purchases or sales shipments. On the evening of
December 31, there were cars on the Sputnik Company siding:
a. Car No. 1 was unloaded on January 2, and received per receiving report No. 906.
b. Car No. 2 was unloaded on January 3, and received per receiving report No. 910.
c. Car No. 3 was loaded and sealed on December 31, and was switched off the company’s siding on
January 2. These goods were billed per sales invoice No. 708.
d. Car No. 4 was loaded and sealed on December 31, and was switched off the company’s siding on
January 2. The sales price was P120,000. This order was covered by sales invoice No. 713.
(Hint: Since these goods are inside the corresponding cars on the count date, none of these were included
in the physical count)
4. On December 31, there were goods in transit to a customer in Naga. The goods were billed on sales
invoice No. 710 and the terms were FOB Naga.
5. In transit to Sputnik on December 31, were goods received per receiving report No. 909. The freight of
P8,000 was properly deducted from the gross purchase price P100,000.
6. In transit to Sputnik on December 31, were goods acknowledged per receiving report no. 911. The freight
of P5,000 was paid by the supplier. The supplier’s invoice shows a total price of P95,000 which
appropriately included the freight charge.
7. Included in the physical inventory count were unsalable items because they were exposed to rain while
they were in transit to Sputnik in November. The invoice cost for the goods which were shipped FOB Seller
was P40,000. These can be sold at an NRV of P5,000.
Requirements:
1. What is the adjusted balance of sales?
2. What is the adjusted balance of purchases?
3. What is the net adjustment to accounts receivable account?
4. What is the net adjustment to accounts payable?
5. What is the net adjustment to inventory?
6. What is the net adjustment to the net income?

Problem 6: The following data are found in the accounting records of Magnus Corp. for the year ended 2023:
Units Unit Cost Total Cost
January 1 Inventory on hand 500 P3,000 P 1,500,000
April 3 Purchase 300 3,200 960,000
July 1 Purchase 300 3,300 990,000
October 1 Purchase 200 3,400 680,000
December 26 Purchase 200 3,500 700,000
Total ? ?
The company sold 600 units on June 25 and 500 units on December 10.

1. Assuming that company uses specific identification cost formula and that the remaining inventories comes
from July purchases with the balance from October purchases, what is the cost of sales for year?
a. 3,450,000 b. 2,880,000 c. 3,500,000 d. 3,542,000
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ReSA – THE REVIEW SCHOOL OF ACCOUNTANCY
INVENTORIES
FARAP-4803
2. What is the cost of ending inventory under weighted average cost method?
a. 1,288,000 b. 1,330,000 c. 1,380,000 d. 1,310,000

Problem 7: During January 2023, Ororo Company recorded the following information pertaining to its inventory:
UNITS UNIT COST TOTAL COST
Jan. 1 balance 20,000 P 10 P 200,000
Jan. 15 sales 15,000
Jan. 18 purchase 20,000 11 220,000
Jan. 20 purchase 15,000 12 180,000
Jan. 25 sales 24,000
Jan. 30 purchases 14,000 15 210,000
Jan. 31 sales 10,000
1. Using FIFO method, how much is the cost of sale for January?
a. 528,000 b. 575,217 c. 518,000 d. 550,000

2. Using the moving average method, how much is the cost of inventory on January 31?
a. 240,000 b. 260,000 c. 280,000 d. 300,000

Problem 8: Remy Co. had determined its December 31, inventory on a FIFO basis at P450,000. Remy Co. records
losses that result from applying the lower of cost or NRV. Data pertinent to its inventory are as follows:
Estimated selling price P 500,000
Normal Profit margin 60,000
Estimated disposal costs 90,000
Current replacement cost 400,000

1. Assuming direct write-off method is used, how much loss should Remy Co. report at December 31?
a. 0 b. 30,000 c. 10,000 d. 40,000

2. Assuming that under the allowance method, the prior year allowance for inventory write down amounted to
P10,000, how much loss should Remy Co. report at December 31?
a. 0 b. 30,000 c. 10,000 d. 90,000

Problem 9: The Itsuki Company uses the lower of cost or net realizable value inventory. Data regarding its
work-in-process inventory are presented below:
Item A Item B
Historical cost P24,000 P18,800
Selling price 36,000 21,800
Estimated cost to complete 4,800 3,500
Estimated cost to sell 2,000 1,900
Replacement cost 20,800 16,800
Normal profit margin as a percentage of selling price 25% 25%
What amount should be reported as ending inventory using the LCNRV individual approach?
a. 45,600 b. 40,400 c. 42,800 d. 48,000

PROBLEM 10: (AUDIT PRACTICE - BS MEASUREMENT @ LOWER OF COST OR NRV)

Octagon Inc., a manufacturing company, had the following info. about its inventories as of December 31:
Finished Goods Inventory:
Item Cost Selling Price Cost to Sell
A P500,000 P1,000,000 20% of Sales Price
B 1,200,000 1,500,000 30% of Sales Price
C 800,000 1,200,000 10% of Sales Price
Work-in-process Inventory:
Item Direct Direct Labor Overhead Cost to Selling
Materials Complete Price upon
Completion
A P30,000 P50,000 P25,000 P50,000 P200,000
B 45,000 65,000 40,000 60,000 250,000
C 75,000 25,000 80,000 40,000 240,000
Raw Materials Inventory: Finished Goods A: Raw Materials Inventory: Finished Goods B:
Item Cost Replacement Item Cost Replacement
cost cost
RM A-01 P120,000 P125,000 RM B-01 P80,000 P100,000
RM A-02 95,000 90,000 RM B-02 105,000 98,000
Raw Materials Inventory: Finished Goods C: RM B-03 110,000 100,000
Item Cost Replacement
cost
RM C-01 P175,000 P170,000
RM C-02 40,000 45,000

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ReSA – THE REVIEW SCHOOL OF ACCOUNTANCY
INVENTORIES
FARAP-4803
Required:
1. What is the correct carrying value of finished goods inventory?
2. What is the correct carrying value of work-in process inventories?
3. What is the correct carrying value of raw materials inventories?
4. Assuming the direct write-off method is used to account for inventory write-down, how much should be
recognized in the profit/loss as a result of the lower of cost or net realizable value valuation of inventories?
5. Assuming allowance method is used and assuming that the beginning balance of the allowance for inventory
write-down has a balance of P130,000, (FG – P60,000; WIP – P70,000; RM – 0), how much should be
recognized in the profit/loss as a result of the lower of cost or net realizable value valuation of inventories?

Problem 11: (AUDIT PRACTICE – INVENTORY ESTIMATION):

You were assigned to audit the inventories of Hank Corp. in relation to your audit firm’s audit of financial
statements for the period ended December 31, 2023. Since the control risk over inventories were placed at below
the maximum level, you decided to substantiate the year-end inventory balance by rendering inventory estimation
using the Gross Profit Method.

The following information is available from Ibarra Company’s records as of and for the year ended December 31:
Inventory, January 1, P600,000; Purchases, P4,350,000; Freight-in, P40,000; Purchase returns, P80,000;
Purchase allowance, P20,000; Purchase discount, P50,000; Sales P3,550,000; Sales returns, P50,000; Sales
allowance, P20,000; Sales discounts, P65,000; Special discounts to employees, P10,000; Cost of abnormal
shrinkages was at P60,000 while Normal breakages at selling price was at P30,000.

A physical count of inventories on December 31, 2023 resulted to inventory balance at P1.9M
1. Assuming that gross profit based on sales is 25%, what is the inventory shortage as a result of your audit?
a. 96,000 b. 170,000 c. 270,000 d. 190,000

2. Assuming that the gross profit based on cost is at 25%, what is the inventory shortage?
a. 96,000 b. 160,000 c. 270,000 d. 190,000

Problem 12: On December 30, a flood destroyed the goods in process inventory and half the raw materials
inventory of the Juzo Company. Finished goods inventory were not damaged. A physical inventory taken after the
flood disclosed the following:

Raw materials P35, 000 Finished goods P175,000

The accounting records of Juzo Company showed the following transactions:
Raw Materials, 1/1/23 P65,000
Goods in process, 1/1/23 180,000
Finished goods, 1/1/23 272,000
Sales (up to December 30) 1,400,000
Raw materials purchases 100,000
Direct labor cost 230,000
Manufacturing overhead cost 150% of direct labor
Gross profit rate (on sales) 40%

How much is the total loss on inventory due to the flood?

a. 107,000 b. 142,000 c. 177,000 d. 352,000

Problem 13: The records of Jeanist Inc. revealed the following information on November 30:
COST RETAIL
Inventory, Jan 1 P841,798 P1,044,736
Purchases 5,730,480 8,152,760
Freight in 110,000
Freight out 420,000
Sales 6,544,040
Purchase returns 54,860 76,804
Sales allowance 51,000
Purchase allowance 36,572 -
Sales returns 111,000
Sales discounts 44,400
Purchase discounts 31,000
Normal shrinkages 101,000
Normal shoplifting losses 200,000
Discount granted to employees 31,000
Departmental transfer in 51,000 78,000
Departmental transfer out 71,000 95,000
Mark up 423,946
Net mark down 353,946
Mark up cancelation 90,000
Mark down cancelation 70,000

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Additional information:
a. Purchases included goods with retail price of P46,520 from High Company shipped on November 29, terms
FOB shipping point. The goods were still in transit as of December 2.
b. Sales included goods shipped to Happy Incorporated, terms FOB destination, on November 30, and received
on December 3. The retail price of the goods was P63,800.
c. A disastrous fire completely destroyed the inventory on December 1. (Round off the Cost-To-Retail ratio into
2 decimal places e.g 12.12%).

1. How much is the amount of inventory using average method?

a. 1,650,849 b. 1,651,039 c. 1,688,682 d. 1,715,365

2. How much is the amount of inventory using FIFO method?

a. 1,650,849 b. 1,651,039 c. 1,688,682 d. 1,715,365

AUDITING PRACTICE – RAP, TOC & ST

(Significant Business Processes: Plan to Inventory, Purchase to Pay and Order to Cash)

1. When the auditor reviews the client’s production/conversion cycle, which will he consider to be an irrelevant process?
a. Production planning. c. Cost accounting.
b. Materials, labor and OH requisition. d. Order processing.
2. Which of the following questions would not be appropriate for an internal control questionnaire involving inventories?
a. Are daily productions based on approved production orders?
b. Are disbursement vouchers approved before payment?
c. Are goods stored in locked storage areas and are access to the store room limited to authorized
personnel only?
d. Are there independent, periodic comparisons of inventory records with goods on hand?
3. The auditor, while understanding internal control over production/conversion cycle, noted that the client has no
production planning policy in place and that you have noted that most of the time the client had ran- over-
production, what is the possible implication of this information to the auditors planned substantive testing audit
program?
a. The auditor should schedule inventory count procedures at year-end in validating existence and
completeness assertion on inventories.
b. The auditor should schedule inventory count at an interim date in validating existence and
completeness’ assertion on inventories.
c. The auditor should plan to perform more extensive audit procedure to validate the valuation assertion
on inventories.
d. The auditor maybe allowed to heavily rely on analytical procedures, such as the use of inventory
estimation procedures in validating the valuation assertion on inventories.
4. What is the possible implication and which financial statement assertion would be affected if there is no appropriate
internal control policy regarding the authorization/approval of requisition of materials, labor and overhead to be
placed in production?
a. May lead to unauthorized production which may affect the existence assertion of inventories.
b. May lead to wastages which in turn may affect the valuation assertion of inventories.
c. May lead to pilferage/theft which in turn may affect the completeness assertion of inventories.
d. May lead to erroneous cost allocation which in turn may affect the valuation assertion.
5. Which of the following most likely would be an internal control procedure designed to detect errors and irregularities
concerning the custody of inventories?
a. Periodic reconciliation of work-in-process with job cost sheets.
b. Segregation of functions between general accounting and cost accounting.
c. Independent comparisons of finished goods records with counts of goods on hand.
d. Approval of inventory journal entries by bookkeeper.
6. The auditor, while reviewing cost accounting records, noted that there has been a recurring entry to close over-
applied overhead cost to cost of sales, work-in process inventory and finished goods inventories, what is the possible
implication of this observation to the auditor’s substantive testing audit program?
a. The auditor should determine, where applicable, that any over-applied overhead cost has been closed
to the appropriate accounts at year-end for all production during the year to ensure no material
misstatement in the valuation assertion for inventories.
b. The auditor should determine, where applicable, that any over-applied overhead cost has been closed
to the appropriate account at year-end for all production during the year to ensure no material
misstatement in the existence assertion for inventories.
c. Independent comparisons of finished goods records with counts of goods on hand to ensure no material
misstatement in the existence and completeness assertions for inventories.
d. Perform purchases and sales cut-of procedures at year-end to ascertain whether goods are
appropriately included in the records at year-end to ensure no material misstatements in the existence
and completeness assertions for inventories.
7. Which of the following internal control procedures most likely would be used to maintain accurate inventory records?
a. Perpetual inventory records are periodically compared with the current cost of individual inventory
items.
b. A just-in-time inventory ordering system keeps inventory levels to a desired minimum.
c. Requisitions, receiving reports and purchase orders are independently matched before payment is
approved.
d. Periodic inventory counts are used to adjust the perpetual records.

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8. An essential procedural control to ensure the accuracy of the recorded inventory quantities is:
a. Performing a gross profit test.
b. Testing inventory extension.
c. Calculating unit costs and valuing obsolete or damaged inventory items in accordance with inventory
policy.
d. Establishing cut-off for goods received and shipped.

9. A client maintains perpetual inventory records in both quantities and pesos. If the assessed level of control risk is
high, an auditor would probably
a. Increase the extent of test of controls of the inventory cycle.
b. Request the client to schedule the physical inventory at the end of the year.
c. Insist that the client perform physical counts on inventories several times during the year.
d. Apply gross profit tests to ascertain the reasonableness of physical counts.

10. Which of the following is correct regarding an auditor’s findings while performing sales and purchases cut-off in line
with auditing a merchandising client’s inventories?
a. Goods received on or before the count date included in the physical count but is purchased on a “sale
with repurchase agreement” terms shall understate inventories as of the balance sheet date.
b. Goods delivered on or before the count date on an FOB shipping point, excluded from the physical
count, still in-transit as of the balance sheet date shall understate inventories as of the balance sheet
date.
c. Goods received after the count date included in the physical count but is purchased on a “bill and hold
agreement” terms shall overstate inventories as of the balance sheet date.
d. Goods delivered on or before the count date excluded in the physical count but are still in transit as of
the balance sheet date on an FOB destination term shall understate inventories as of the balance sheet
date.

11. Which of the following is incorrect regarding the conduct of the physical count of inventories?
a. The best timing for observing physical count of inventories is at year-end.
b. The primary responsibility of the independent auditor with regard inventory physical count is to observe
the conduct of the physical count done by the client personnel.
c. The auditor may decide to perform test-count on inventories as part of his substantive test procedure.
d. The auditor traces test-counts noted during his count observation to the client’s inventory summary
and records in support of the existence assertion.

12. While observing a client’s annual physical inventory, an auditor noticed that certain test counts made were higher
than the recorded quantities in the client’s perpetual records. This situation could be the result of the client’s failure
to record
a. Purchase discounts. c. Sales.
b. Purchase returns d. Sales returns.

13. To gain assurance that all inventory items in a client’s inventory listing are valid, an auditor most likely would
_____________. This procedure is necessary to audit ___________ assertion over inventories.
a. Trace inventory tags to items listed in the inventory listing schedule; Completeness.
b. Trace Inventory tags to items listed in the receiving reports and vendor invoices; Existence.
c. Vouch items listed in the inventory schedule to inventory tags and the auditor’s recorded count sheet,
Existence.
d. Vouch items listed in the receiving reports and vendors’ invoices to the inventory listing schedule;
Completeness.

14. Which of the following procedures carried out at an inventory count by an auditor is a test primarily for
overstatement of inventory?
a. Agree items that have been test-counted to inventory sheets.
b. Ensure completeness of sequence of pre-numbered inventory sheets at the conclusion of the count.
c. Check that inventories held at third party locations are included in the count.
d. Agree items appearing in the inventory summary prepared by the client after the inventory count to
the test counts done the by the auditor.

15. Which of the following procedures carried out at an inventory count by an auditor is a test primarily for
overstatement of inventory?
a. Agree items that have been test-counted to inventory sheets.
b. Identify slow-moving obsolete inventory items.
c. Ensure completeness of sequence of pre-numbered inventory sheets at the conclusion of the count.
d. Check that inventory held at third party locations is included in the count.

16. To measure how effectively an entity employs it resources, an auditor calculates inventory turnover by dividing
average inventory into cost of goods sold, this analytical procedure information is most helpful/useful in assessing
which of the following financial statement assertion on inventories?
a. Existence
b. Rights
c. Valuation
d. Completeness

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17. You were assigned to audit a client’s inventory for the period ended December 31, 2023. After your review of the
internal control over inventories, you have ascertained that they were effective, thus, internal control risk was
maintained at below the maximum level. You decided, as a substantive test procedure, to simply test the
reasonableness of the reported inventory balance by performing inventory estimation using the gross profit method.
Which of the following is correct, if there is a material difference between the amount of the estimated inventory
and the inventory per books?
a. The auditor should propose to the client to adjust the books to equal the result of the analytical
procedure-inventory estimation.
b. The auditor should issue a qualified opinion due to the material misstatement in the inventory and
indicate in the audit report the extent of the material misstatement.
c. The auditor should extend further the audit procedure by rendering additional test of details of account
balance and transactions to ascertain the source of the material misstatement
d. The auditor should propose to the client that an audit adjustment is necessary and if the client is not
willing to make the necessary adjustment, consider the possible implication of the material
misstatement to the type of audit opinion you will issue

18. An auditor most likely would make inquiries from the production and sales personnel concerning possible obsolete
or slow-moving inventory to support management’s financial assertion of:
a. Valuation c. Existence
b. Rights and obligations d. Occurence

19. Which of the following auditing procedures most likely would provide assurance about a manufacturing entities
inventory valuation?
a. Testing the entity’s computation of standard overhead rates.
b. Obtaining confirmation of inventories pledged under loan agreements.
c. Reviewing shipping and receiving cut-off procedures for inventories
d. Tracing test counts to the entity’s inventory listing.

20. An auditor concluded that no excessive costs for idle plant were charged to inventory. This conclusion most likely
relates to the auditor’s objective to obtain evidence about the financial statement assertions regarding inventory:
a. Rights and obligation c. Existence
b. Valuation d. Completeness

21. PAS 2 requires that inventories be valued at lower of cost or net realizable value as at the balance sheet date. Which
of the following shall be the auditor’s best source of corroborating evidence to determine the reasonableness of the
client’s estimate of the net realizable value?
a. Vouching client estimates to the last sales invoices for finished goods inventory sold and supplier’s
purchase invoices for raw materials purchased.
b. Benchmarking by comparing client estimates against industry’s current prices for similar inventories.
c. Tracing test counts noted during the physical count of inventories to the client’s inventory summary.
d. Subsequent events review.

22. When auditing inventories, an auditor would least likely verify that:
a. The financial statement presentation of inventories is appropriate
b. Damaged goods and obsolete items have been properly accounted for
c. All inventories owned by the client are on hand by the time of the count.
d. The client has used proper inventory pricing.

- END -

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