O Level Principles of Accounts Practice Paper 5

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O-Level Principles of Accounts Quiz - Inventory Costing

Name: ____________________
Class: ____________________
Date: ____________________
Score: ________ / 50

Duration: 60 Minutes
Total Marks: 50

Instructions:

• Answer all questions in the spaces provided.
• Show all workings clearly for calculation questions.
• Use a calculator where necessary.
• Round all final answers to two decimal places where applicable.

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Section A: Foundational Concepts (Questions 1–5)

1. Define the term "Inventory" and state its classification in the Statement of Financial Position. (2)
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2. State the accounting principle that requires inventory to be valued at the lower of cost and net realizable value (NRV). (1)
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3. Explain the difference between "Cost" and "Net Realizable Value" in the context of inventory valuation. (2)
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4. A business uses the FIFO method. If the cost of raw materials is rising, will the closing inventory value be higher or lower compared to the AVCO method? (1)
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5. State two reasons why a business might choose to use the Weighted Average Cost (AVCO) method instead of First-In, First-Out (FIFO). (2)
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Section B: Computational Application (Questions 6–15)

Scenario for Questions 6–8: The following transactions occurred for Zenith Electronics in October 2024:

• Oct 1: Opening Inventory: 100 units @ $10 each
• Oct 10: Purchased 200 units @ $12 each
• Oct 15: Sold 150 units
• Oct 22: Purchased 100 units @ $15 each
• Oct 28: Sold 100 units

6. Calculate the value of the closing inventory as at 31 October 2024 using the FIFO method. (3)
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7. Calculate the value of the closing inventory as at 31 October 2024 using the AVCO method. (3)
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8. Calculate the Cost of Sales for October 2024 using the FIFO method. (3)
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9. A business has opening inventory of $4,500, purchases of$22,000, and closing inventory of $3,200. Calculate the Cost of Sales. (2)
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10. If the Cost of Sales is $15,000 and the average inventory for the year is$3,000, calculate the Inventory Turnover Ratio. (2)
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11. Using the answer from Question 10, calculate the Days Sales in Inventory. (2)
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12. An item of inventory cost $50. Due to damage, its estimated selling price is$45, and it will cost $2 to repair before sale. Calculate the value at which this item should be recorded. (2)
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13. A business has a Cost of Sales of $120,000. The closing inventory is$20,000 and opening inventory was $15,000. Calculate the total purchases for the period. (3)
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14. Calculate the Gross Profit if Revenue is $80,000 and Cost of Sales is$45,000. (2)
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15. If the Inventory Turnover Ratio increases from 4 times to 6 times per year, explain the likely effect on the business's liquidity. (3)
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Section C: Analysis and Synthesis (Questions 16–20)

16. Explain how an overvaluation of closing inventory in Year 1 affects the profit for Year 1 and the profit for Year 2. (4)
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17. A business is considering switching from FIFO to AVCO during a period of falling prices. Explain the effect of this change on the reported Gross Profit. (3)
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18. Distinguish between a "perpetual inventory system" and a "periodic inventory system". (3)
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19. Discuss two non-accounting factors that a manager should consider when deciding the optimal level of inventory to hold. (4)
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20. A business has a very high "Days Sales in Inventory" compared to the industry average. Suggest two possible reasons for this and one action to rectify it. (4)
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Answer Key - O-Level Principles of Accounts Quiz: Inventory Costing

Section A: Foundational Concepts

1. Definition: Goods held for resale in the ordinary course of business. Classification: Current Asset. (2 marks)
2. Prudence Concept. (1 mark)
3. Cost: The purchase price plus any costs incurred to bring the inventory to its present location and condition. NRV: The estimated selling price minus estimated costs of completion and selling expenses. (2 marks)
4. Higher. (FIFO assumes the oldest, cheaper units are sold first, leaving the newer, more expensive units in closing inventory). (1 mark)
5. Any two:
   • Smoothes out price fluctuations.
   • More suitable for identical/homogeneous items where specific batches cannot be tracked.
   • Prevents profit manipulation during inflation. (2 marks)

Section B: Computational Application

6. FIFO Calculation:

   • Total units = 100 + 200 + 100 = 400. Total sold = 150 + 100 = 250.
   • Remaining units = 150.
   • Latest batch: 100 units @ $15 =$1,500.
   • Next latest: 50 units @ $12 =$600.
   • Total = $2,100. (3 marks)

7. AVCO Calculation:

   • Total cost = (10010) + (20012) + (100*15) = 1,000 + 2,400 + 1,500 = $4,900.
   • Total units = 400.
   • Average cost per unit = 4,900 / 400 = $12.25.
   • Closing units = 150.
   • Value = 150 * 12.25 = $1,837.50. (3 marks)

8. FIFO Cost of Sales:

   • 1st sale (150): 100@10 + 50@12 = 1,000 + 600 = 1,600.
   • 2nd sale (100): 100@12 = 1,200.
   • Total = $2,800. (3 marks)

9. $4,500 +$22,000 - $3,200 = **$23,300**. (2 marks)

10. $15,000 /$3,000 = 5 times. (2 marks)

11. 365 / 5 = 73 days. (2 marks)

12. NRV = $45 -$2 = $43. Cost =$50. Lower is $43. (2 marks)

13. $120,000 =$15,000 + Purchases - $20,000$\rightarrow$Purchases =$120,000 + $5,000 = **$125,000**. (3 marks)

14. $80,000 -$45,000 = $35,000. (2 marks)

15. Effect: Liquidity improves. Reason: Inventory is converted to cash faster, reducing the amount of capital tied up in stock and increasing the cash available to pay current liabilities. (3 marks)

Section C: Analysis and Synthesis

16. Year 1: Closing inventory is an offset to Cost of Sales. Overvaluation $\rightarrow$ Lower Cost of Sales $\rightarrow$ Overstated Profit. (2 marks) Year 2: Year 1 closing inventory becomes Year 2 opening inventory. Overvaluation $\rightarrow$ Higher Cost of Sales $\rightarrow$ Understated Profit. (2 marks)

17. In falling prices, FIFO uses older (higher) costs for COGS, while AVCO averages them. AVCO will result in a higher COGS than FIFO in a falling market, therefore Gross Profit will be lower under AVCO compared to FIFO. (3 marks)

18. Perpetual: Inventory records are updated continuously after every transaction. Periodic: Inventory is determined by a physical count at the end of the period. (3 marks)

19. Any two:

    • Storage Costs: High inventory levels increase rent and insurance.
    • Risk of Obsolescence: Especially for tech/fashion, holding too much stock risks items becoming unsellable.
    • Lead Time: Ensuring enough stock to cover the gap between ordering and delivery.
    • Customer Demand: Avoiding "stock-outs" to maintain customer loyalty. (4 marks)

20. Reasons (Any 2):

    • Poor sales performance/low demand.
    • Over-purchasing/poor inventory management.
    • Holding obsolete stock that cannot be sold. (2 marks) Action (Any 1):
    • Implement a "Just-in-Time" (JIT) system.
    • Run promotional sales/discounts to clear slow-moving stock.
    • Review and tighten purchasing policies. (2 marks)