Financial Accounting

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Previous Lessons
Open Chapter Ch. 1: Basics of Financial Accounting
Lesson #1 Introduction to Financial Accounting
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Lesson #2 Structures of a Business
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Lesson #3 Comparing Internal vs. External Users
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Lesson #4 Business Activities
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Lesson #5 Financial Statements
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Lesson #6 Elements of Financial Accounting
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Open Chapter Ch. 2: Assets, Liability, and Equity
Lesson #7 Assets
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Lesson #8 Liabilities
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Lesson #9 Equity
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Open Chapter Ch. 3: The Double-Entry System and Conceptual Framework
Lesson #10 Accounting Equation
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Lesson #11 Conceptual Framework
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Lesson #12 Double Entry Accounting System
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Lesson #13 Debits and Credits
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Lesson #14 Normal Balances and RED Accounts
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Exam Exam 1
Open Chapter Ch. 4: The Accounting Cycle
Lesson #15 Journalizing and the Accounting Cycle
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Lesson #16 Posting to the General Ledger
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Lesson #17 Trial Balance
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Lesson #18 Adjusting Entries for Accrued Expenses
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Lesson #19 Adjusting Entries for Prepaid Expenses
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Lesson #20 Adjusting Entries for Unearned Revenue
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Lesson #21 Adjusting Entries for Accrued Revenue
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Lesson #22 Adjusting Entries for Amortization and Depreciation
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Lesson #23 Adjusted Trial Balance
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Lesson #24 Preparing the Financial Statements
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Lesson #25 Permanent vs. Temporary Accounts
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Lesson #26 Closing Entries
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Open Chapter Ch. 5: Merchandise Inventory
Lesson #27 Introduction to Merchandise Inventory
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Lesson #28 Periodic vs. Perpetual Inventory Systems
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Lesson #29 Journalizing Purchase Entries
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Lesson #30 Journalizing Sales Transactions
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Lesson #31 Preparing a Multiple-Step Income Statement
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Lesson #32 Periodic Inventory System Purchases
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Lesson #33 Periodic System and the Multiple-Step Accounting System
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Exam Midterm Exam
Open Chapter Ch. 6: Cost Flow Assumptions: FIFO, LIFO, and Average Cost Methods
Lesson #34 Specific Identification Method and Inventory Costing
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Lesson #35 FIFO Method and Inventory Costing
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Lesson #36 Average Cost Method and Inventory Costing
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Lesson #37 The LIFO Method
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Lesson #38 Average Cost Method for the Perpetual System
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Lesson #39 Comparing Inventory Costing Methods
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Open Chapter Ch. 7: Receivables and Bad Debts
Lesson #40 Allowance Method and Uncollectibles
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Lesson #41 The Allowance Method
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Lesson #42 Percentage of Sales Method
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Lesson #43 Percentage of Receivables Method
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Lesson #44 Receivables Method and the Aging Table
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Lesson #45 Write Off Receivables Using the Allowance Method
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Lesson #46 Direct Write-Off Method
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Open Chapter Ch. 8: Revenue Recognition
Lesson #47 Revenue Recognition
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Lesson #48 Revenue Recognition Examples
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Lesson #49 Revenue Recognition and Long Term Contracts
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Lesson #50 Percentage of Completion Method
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Lesson #51 Percentage of Completion Method Journal Entries
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Lesson #52 Percentage of Completion Method and Journalizing Losses
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Lesson #53 Cost Recovery Method
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Lesson #54 Completed Contract Method and Journal Entries
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Lesson #55 Completed Contract Method and Losses
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Exam Exam 3
Open Chapter Ch. 9: Depreciation of Fixed Assets and Gains and Losses
Lesson #56 Depreciation, Amortization and Depletion
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Lesson #57 Straight Line and Declining Balance Methods
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Lesson #58 Straight Line and Double Declining Balance Depreciation Examples
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Lesson #59 Gains and Losses on Disposals of Property, Plant & Equipment
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Open Chapter Ch. 10: Intangible Assets
Lesson #60 Intangible Assets
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Lesson #61 Amortizing Intangible Assets
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Lesson #62 Impairment of Intangible Assets
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Lesson #63 Recording Goodwill, Amortization and Impairment
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Open Chapter Ch. 11: The Indirect Cash Flow Statement
Lesson #64 Preparing a Cash Flow Statement Using the Indirect Method Part 1
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Lesson #65 Cash Flow Statement Using Indirect Method Part 2, Receivables
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Lesson #66 Cash Flow Statement Using Indirect Method Part 3, Inventory
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Lesson #67 Cash Flow Statement Using Indirect Method Part 4, Payables
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Lesson #68 Cash Flow Statement Using Indirect Method Part 5, Non Cash Expenses
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Lesson #69 Cash Flow Statement- Investing and Financing Activities
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Exam Final Exam

Assignments:

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Lesson Objectives:

- What the average cost method is.
- Calculating COGS in the periodic system.
- How to find the ending inventory figure.



We've reviewed the specific identification and FIFO methods, now let's review the final method of inventory costing, the average cost method. This method will give us an average cost for each item of inventory that we will use to calculate the cost of goods sold and ending inventory figures.
 
The average cost method will yield a different cost of goods sold figure for the periodic system than it will for the perpetual system. This means that we will need to calculate the figures separately for each system, because they will not come up with the same results.

In contrast to the FIFO method where we used the different unit costs for the bread, with the average cost method we will be using the same unit price for each piece of inventory to expense the cost of goods sold.

Let's take a look at an example of the periodic system first, as it is the simpler of the two systems.

We will use the same table of purchases as we did when reviewing the FIFO method.



Let's examine how the average cost figure will be calculated. In order to get a full picture of how to accurately use this method, we will first look at the incorrect way of calculating the average cost. The reason for this is because people often make mistakes when using the average cost method and you want to avoid calculating the wrong value.

The incorrect way would be to add up all of the unit costs and divide by the number of purchases. In this case, a common misconception would be to use the standard average, as shown above.
 
The correct way of calculating the average cost is to use the weighted average, which involves actually multiplying each purchase line by the unit costs to come up with the total inventory cost. This figure is then divided by the total number of units to come up with the average unit cost. Take a look at the breakdown of how this is calculated above.



Next, we will use the average unit cost to calculate the cost of goods sold. In order to calculate this figure, we will simply use the average cost of $3.05 to expense each unit sold. Let's look how this applies to the sale entries above.

The cost of goods sold is a total of $1,677.50 which reflects the 2 sale entries multiplied by the average cost of $3.05.



To find out the ending inventory figure, we will simply subtract the cost of goods sold from the total inventory. In this example the total inventory was $2,750 less the COGS of $1,677.50 would net the ending inventory value of $1,072.50.
 
Keep in mind this example only applies to the periodic inventory system as we will be reviewing how to use the average cost method for the perpetual system in an upcoming lesson.