Secondary 4 Principles of Accounts Practice Paper 2

TuitionGoWhere Practice Paper - Principles of Accounts Secondary 4

Answer Key & Marking Scheme (Version 2)

Subject: Principles of Accounts
Topic: Inventory Costing
Total Marks: 40

Section A: Multiple Choice & Short Concepts [10 Marks]

1. C
[1]
Reasoning: Prudence requires assets not to be overstated. Therefore, inventory is valued at the lower of cost or NRV.

2. A
[1]
Reasoning: In rising prices, FIFO assigns older (cheaper) costs to Cost of Sales, resulting in lower COGS and higher Gross Profit.

3. Definition of NRV:
Estimated selling price in the ordinary course of business less the estimated costs of completion and the estimated costs necessary to make the sale.
[2]
(1 mark for "estimated selling price", 1 mark for "less costs to complete/sell")

4. Costs included in Inventory:
Any two of the following:

• Purchase price of goods
• Import duties / Taxes (non-recoverable)
• Transport / Carriage inwards / Freight inwards
• Insurance during transit
• Handling costs directly attributable to acquisition
  [2]
  (1 mark per correct cost, max 2)

5. Costs excluded from Inventory:
Any two of the following:

• Abnormal waste / spoilage
• Storage costs (unless necessary for production process)
• Administrative overheads
• Selling and distribution costs (e.g., Carriage Outwards, Salesmen commissions)
• Interest costs (unless qualifying asset)
  [2]
  (1 mark per correct cost, max 2)

6. Effect on Gross Profit:
Gross Profit will be overstated by $500.
[1]
(Reasoning: Closing Inventory is deducted from Cost of Goods Available for Sale to get COGS. If Closing Inv is too high, COGS is too low, so Profit is too high.)

7. Effect on Net Profit:
Net Profit will be overstated by $300.
[1]
(Reasoning: Opening Inventory is added to Purchases to get COGS. If Opening Inv is too low, COGS is too low, so Profit is too high.)

Section B: Calculations – FIFO and AVCO [18 Marks]

8. (a) Closing Inventory Value (FIFO)

Step 1: Determine Units in Closing Inventory
Total Units Available = 100 (Op) + 200 (Pur) + 100 (Pur) + 50 (Pur) = 450 units
Total Units Sold = 150 + 180 = 330 units
Closing Inventory Units = 450 - 330 = 120 units

Step 2: Value the 120 units using FIFO
Under FIFO, the closing inventory consists of the most recently purchased units.

• 50 units from 25 Jun Purchase @ $15.00 =$750
• 70 units from 15 Jun Purchase @ $14.00 =$980
  (Note: We need 120 units. We take all 50 from the last batch, and remaining 70 from the previous batch.)

Total Value = $750 +$980 = $1,730

[6]
(1 mark for correct closing units, 2 marks for identifying correct batches, 2 marks for calculation, 1 mark for final answer)

8. (b) Closing Inventory Value (AVCO - Periodic)

Step 1: Calculate Total Cost of Goods Available for Sale

• 1 Jun: 100 units @ $10.00 =$1,000
• 5 Jun: 200 units @ $12.00 =$2,400
• 15 Jun: 100 units @ $14.00 =$1,400
• 25 Jun: 50 units @ $15.00 =$750
  Total Cost = $1,000 +$2,400 + $1,400 +$750 = $5,550
  Total Units = 100 + 200 + 100 + 50 = 450 units

Step 2: Calculate Weighted Average Cost per Unit
Average Cost = $5,550 / 450 units =$12.3333...
Rounded to 2 decimal places = $12.33

Step 3: Calculate Closing Inventory Value
Closing Units = 120 units (from part a)
Value = 120 units × $12.33 = **$1,479.60**

(Note: If student uses unrounded $12.3333, Value =$1,480. Accept either if workings are shown.)

[6]
(2 marks for total cost, 1 mark for total units, 1 mark for average cost calc, 2 marks for final valuation)

8. (c) Cost of Sales (FIFO)

Method 1: Direct Calculation of Sold Units

• 150 units sold on 10 Jun:
  • 100 units @ $10.00 =$1,000
  • 50 units @ $12.00 =$600
  • Subtotal = $1,600
• 180 units sold on 20 Jun:
  • Remaining 150 units from 5 Jun Purchase @ $12.00 =$1,800
  • 30 units from 15 Jun Purchase @ $14.00 =$420
  • Subtotal = $2,220
• Total Cost of Sales = $1,600 +$2,220 = $3,820

Method 2: Formula
Cost of Goods Available for Sale ($5,550) - Closing Inventory FIFO ($1,730) = $3,820

[3]
(1 mark for method, 2 marks for correct answer)

8. (d) Explanation of Difference
FIFO assigns the older, lower costs ($10 and$12) to Cost of Sales, while AVCO blends these with the higher recent costs ($14 and$15). Therefore, FIFO results in a lower Cost of Sales (and higher profit) in a period of rising prices compared to AVCO, which smooths out the price increases.
[3]
(1 mark for referencing older/lower costs in FIFO, 1 mark for referencing averaging in AVCO, 1 mark for linking to rising prices context)

Section C: Analysis and Decision Making [12 Marks]

9. (a) Gross Profit Margin (FIFO)
Gross Profit (FIFO) = Sales - COGS (FIFO)
GP = $500,000 -$300,000 = $200,000 Gross Profit Margin = ($200,000 / $500,000) × 100% = 40%

[2]
(1 mark for GP calculation, 1 mark for correct %)

9. (b) Net Profit (AVCO)
Step 1: Determine COGS (AVCO)
Change in Closing Inventory = Closing Inv (FIFO) - Closing Inv (AVCO)
Change = $80,000 -$72,000 = $8,000 decrease. Since Closing Inventory is lower under AVCO, COGS will be **higher** by$8,000.
COGS (AVCO) = $300,000 +$8,000 = $308,000

Step 2: Calculate Gross Profit (AVCO)
GP (AVCO) = $500,000 -$308,000 = $192,000

Step 3: Calculate Net Profit (AVCO)
Net Profit = GP - Operating Expenses
Net Profit = $192,000 -$120,000 = $72,000

(Alternative Check: Net Profit FIFO = $200k -$120k = $80k. Difference in Inv is$8k. NP AVCO = $80k -$8k = $72k.)

[3]
(1 mark for adjusting COGS or GP, 1 mark for correct GP, 1 mark for final NP)

9. (c) Explanation of Higher GP under FIFO
In a period of rising prices, FIFO assumes that the first items purchased (which were cheaper) are the first ones sold. This means the Cost of Sales is calculated using older, lower prices. AVCO averages the older lower prices with the newer higher prices, resulting in a higher average cost per unit sold. A lower Cost of Sales under FIFO leads to a higher Gross Profit.
[3]
(1 mark for FIFO using older/cheaper costs, 1 mark for AVCO using averaged/higher costs, 1 mark for conclusion on GP)

9. (d) Other Factors in Choosing Method
Any two of the following (well-explained):

1. Tax Implications: In some jurisdictions, lower reported profit (e.g., via AVCO or LIFO where allowed) may result in lower immediate tax payments, improving cash flow.
2. Consistency/Comparability: The business should consider industry norms. Using a method different from competitors may make financial statement comparison difficult for investors.
3. Physical Flow of Goods: If the goods are perishable or subject to obsolescence (like electronics), FIFO reflects the physical flow better and ensures older stock is sold first, reducing waste.
4. Administrative Cost/Complexity: AVCO may be simpler to administer if using a periodic system, whereas FIFO requires tracking specific batches (though modern software makes this less of an issue).

[4]
(2 marks per factor: 1 for identifying, 1 for explanation)