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Chapter 13 - Gross Profit Method

The gross profit method estimates inventory costs and cost of goods sold based on the assumption that the ratio of cost of goods to net sales remains constant over time. It outlines the calculation of gross profit rate based on either sales or costs being 100% and how to use beginning inventory, purchases, cost of sales, and ending inventory to calculate missing values. The document then provides an illustration applying the gross profit method to estimate the cost of stolen inventory of $600,000 and calculate net income for years 2019 and 2018 of $1,360,000 and $1,600,000 respectively.

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744 views2 pages

Chapter 13 - Gross Profit Method

The gross profit method estimates inventory costs and cost of goods sold based on the assumption that the ratio of cost of goods to net sales remains constant over time. It outlines the calculation of gross profit rate based on either sales or costs being 100% and how to use beginning inventory, purchases, cost of sales, and ending inventory to calculate missing values. The document then provides an illustration applying the gross profit method to estimate the cost of stolen inventory of $600,000 and calculate net income for years 2019 and 2018 of $1,360,000 and $1,600,000 respectively.

Uploaded by

Bena Cubillas
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© © All Rights Reserved
We take content rights seriously. If you suspect this is your content, claim it here.
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IV.

GROSS PROFIT METHOD

Gross profit method is based on the assumption that the rate of gross profit remains approximately the same from
period to period and therefore the ratio of cost of goods to net sales is relatively constant from period to period.

GOODS AVAILABLE FOR SALE (GAS) xx


COST OF GOODS SOLD (xx)
ENDING INVENTORY xx

FORMULAS:

*NET SALES xx Gross profit rate = Gross Profit / Net Sales


COS (xx) Cost of sale rate = Cost of sale / Net Sales
Gross Profit xx

Gross Profit Rate BASED ON SALES: Sales is 100%

*NET SALE 100% Gross profit rate = 30% / 100% = 30%


COS (70%) Cost of sale rate = 70% / 100% = 70%
Gross Profit 30%

Gross Profit Rate BASED ON COSTS: Cost of sale is 100%

*NET SALE 130% Gross profit rate = 30% / 130% = 23.08%


COS (100%) Cost of sale rate = 100% / 130% = 76.92%
Gross Profit 30%

* NET SALES = Gross Sales – Sales Return


Only Sales return is deducted because there is an actual addition to the goods on hand. Sales allowances and sales discount are
ignored because they do not affect the physical volume of the goods, but it deceases the amount of sales.

If the problem is silent, it is assumed that the gross profit rate is computed BASED ON SALES.

Illustration:

In December 2019, Unanimous Company had a significant portion of inventory stolen. The entity determined the cost
of inventory not stolen to be 100,000.

2019 2018
Purchases 5,200,000 5,000,000
Purchase returns and allowances 240,000 200,000
Sales 7,880,000 8,200,000
Sales Returns 80,000 200,000
Sales allowances 100,000 50,000
Beginning Inventory 1,200,000 2,000,000
Operating Expenses 800,000 750,000

1. What is the estimated cost of the stolen inventory? 600,000.

Compute first the Gross Profit Rate for 2018, which is also applied for 2019.

Beginning, Inventory 2,000,000


Purchases 5,000,000
Purchase returns and allowances (200,000) 4,800,000
Goods Available for Sale 6,800,000
Ending, Inventory *(1,200,000)
Cost of Sale (COS) 5,600,000

*The beginning Inventory for 2019 is the ending inventory for year 2018.
Sale 8,200,000
Sales returns (200,000) 8,000,000 100%
COS 5,600,000 5,600,000/8,000,000 = 70%
Gross Profit for 2018 2,400,000 2,400,000/8,000,000 = 30%

Compute for the Ending Inventory for 2019

Beginning, Inventory 1,200,000


Purchases 5,200,000
Purchase returns and allowances (240,000) 4,96,000
Goods Available for Sale 6,160,000

Sales 7,880,000
Sales Return (80,000)
Net Sales 7,800,000
COS rate x 70%
Cost of Sales (COS) 5,460,000

Goods Available for Sale 6,160,000


COS (5,460,000)
TOTAL ENDING INVENTORY 700,000
Cost of inventory not stolen (100,000)
COST OF INVENTORY STOLEN 600,000

2. How much is the net income for year 2019 and 2018. 1,360,000; 1,600,000

2019 2018
Sales 7,880,000 8,200,000
Sales Returns (80,000) (200,000)
Sales Allowances (100,000) (50,000)
Net Sales 7,620,000 7,950,000
COS (5,460,000) (5,600,000)
Gross Profit 2,160,000 2,350,000
Operating Expenses ( 800,000) ( 750,000)
NET INCOME 1,360,000 1,600,000

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