Inventory Accounting and Income Taxation - Coursework Example

Finance and Accounting of The paper seeks to analyze the financial reporting procedures for companies. It delves into financial standards and conceptual frameworks that govern the treatment of various items in the audited financial statements of a company. In addition, it addresses a few other aspects of PDC Energy, Inc. It also covers the limitations and advantages of technological applications in commerce. Finance and Accounting The accounting for debt and equity by an issuer depends on the instruments issued. For options or forwards on the issuer’s shares, the focus is on the classification of the equity contract either as an asset or liability or as equity. As an asset or liability, it is adjustable to fair value every reporting period through earnings. As equity, it is not subsequently remeasured. For shares and debt, the analysis considers whether the instrument has some embedded features that would require separate accounting. Shares may also require classification as a liability or as temporary equity under SEC rules. For securities that are convertible into common stock, the issuer should determine whether a portion of the proceeds falls under a separate component of equity. To cater for the time value of money, the accounting process uses various tools. Cash flows are discounted or compounded to either the present value or future value. As pertains to long-term debt instruments, some of the disclosures include the nature of the liabilities, the interest rates, the maturity dates, call provisions, as well as conversion privileges. Others include assets pledged as security and the restrictions imposed by the borrower. The company derives its liquidity mainly from cash flows from operating activities as well as its revolving credit facility. It also raises finances through debt and equity market transactions and the sale of assets. The company’s strategy is to enter into commodity derivative instruments whose maturity is less than five years. It has restrictive covenants that limit the entry into hedges that exceed 85% of the expected production from total proved reserves in the future for instruments that mature within three years. For those that mature within five years, the limit is 85% of expected future production from the proved developed properties. Electronic commerce applications come with various risks, limitations, and advantages. The biggest risk would be hackers who take advantage of any opportunity they get to cause havoc to systems online. Another risk would be mechanical failures that affect commercial processes. The commerce applications are limited in that not everyone may be able to use them. Some people find it hard to trust the authenticity of transactions via these applications. Among the advantages of such applications are a wider reach for customers with little geographic limits and low operational costs. Net Present Value (NPV) is the difference between the present value of cash inflows and cash outflows. It is a capital budgeting tool that analyzes the profitability of a project or investment (Whittington and Delaney, 2007). The internal rate of return is a discount rate that equates the net present value of cash flows from a project to zero. A high IRR makes the project desirable. It allows for the ranking of projects on the basis of their rates of return. As a capital budgeting tool, the payback method ranks projects in terms of the period it takes a project to pay back its original investment. For this method, a project with a shorter payback period would be desirable compared to one with a longer payback period. The discounted payback period method determines the length of time it would take a project to break-even while also discounting future cash flows (Whittington and Delaney, 207). As a capital budgeting tool, it helps in the determination of profitability of a project. Unlike payback period, this method takes into consideration the time value of money. The discounted cash flow is a method that estimates ho attractive an investment opportunity is. It puts into use future free cash flow projections, discounting them to the present value to determine the potential of a project. Accounting for inventory is at the lower of cost or net realizable value. The accounting for inventory depends on the legal ownership of the goods. Thus, the person holding legal ownership is the one to account for the goods as part of the inventory (Whittington and Delaney, 2007). Ownership of goods in transit depends on the terms of sale. If the terms were free on board destination, then the purchaser can only include them in their inventory only when they receive the goods. Otherwise, they should appear in the books of the seller. For those sold under Free on board shipping point, the buyer includes such goods once they are already being transported. For goods on consignment, accounting for the inventory should be by the consignor and not the consignee (Whittington and Delaney, 2007). That is because the consignor has legal ownership over the goods. The recognition of gains from the sale of inventory is when the goods are sold and not when paid. The basis for selecting the inventory costing method varies from company to company. Some of the factors that influence the choice of the costing method include tax savings, perishability of inventory, obsolescence of inventory, the variability of inventory and the volatility of the cost of acquisition of inventory. A company wishing to gain tax savings is likely to use LIFO as the method leads to higher cost of sales hence lower profits and tax Gray and Ehoff 2014). LIFO is also applicable where there are higher chances of inventory obsolescence since older inventory may be obsolete. Selling such obsolete inventory would be impossible as consumers seek the most recent goods. When inventory is highly perishable, then FIFO is applicable to sell earlier stock before it goes bad. Where the inventory varies a lot, then the method of choice would be the weighted average (Ayres, Bauman, Bauman and Fan, 2008). The weighted average would also be the method of choice where the cost of acquiring inventory changes a lot and prices are not stable. According to IAS 2.36, the disclosures involving inventory in the audited financial statements include the accounting policy for inventory in application, the carrying amount of inventory carried at fair value net costs to sell, and the carrying amount of inventories that form security for liabilities (Bloom, 2010). Other disclosures include the cost of goods sold, the reversal and circumstances leading to the reversal of a write-down of inventories, and the amounts of write-downs of inventories with recognition as expenses for the period. There should also be a disclosure on the amount of supplies, merchandise, work-in-progress, materials and finished goods. The company’s capital structure as at the end of 2014 comprised of 35,927,985 common shares and 21,643 treasury shares giving a net of 35,906,342 shares outstanding. It has no preferred stock. In terms of amounts of cash, the $0.01 common stock has a value of $359,000. Add-in capital at the year-end amounts to $689,209,000, with retained earnings at $448,702,000. The treasury shares account for $911,000 of the total equity of the company. The total equity for the company thus adds up to 1,137,359,000. During stock issuance, the journal entries that accompany such issue would depend on whether the shares issuance is at par value or not (Spiceland, Sepe and Nelson, 2013). Par value stocks normally have a face value. Their issuance may be below par, at par or above par. For shares issued at par, the entries would be to debit cash and credit common or preferred stock. An issuance of above par would require a debit of the cash account with total amount received and a credit of the stock account with the par value of the shares and an additional credit to the paid-in capital account with the excess cash received above the par value. For an issuance below par, debit cash account with the total amount received debit discount on capital with the excess of par value above cash for the shares. The stock account has a credit entry for the par value of the shares. An issue at no par requires a debit entry for cash and a credit entry for stock account. The Intrinsic Value method estimates the value of an asset through the use of discounted cash flow analysis. That is the discounting to the present value all future cash flows the asset would generate. On the other hand, the Market Value method uses the current market price of an asset to determine its value. An asset would be valued at the price buyers are willing to pay for it. In the case of shares, the market value of the company would be the price investors are willing to pay for its shares. The market value depends heavily on forces of demand and supply in the market (Spiceland, Sepe and Nelson, 2013). A simple capital structure refers to a structure that lacks any potential dilutive securities. When a company has a simple structure, it will only have preferred stockholders, common stockholders, and nonconvertible debt (Wild, Shaw and Chiapetta, 2011). Such a company only needs to report basic EPS. On the other hand, a complex structure contains potentially dilutive securities. It has different combinations of securities. A company with such a structure will also have warrants, options, and convertible debt instruments. Its EPS is on a basic and fully diluted basis. Earnings per share refer to that portion of net earnings attributable to each share of common stock. Net earnings are a company’s earnings fewer taxes and preferred stock dividends. The objective of EPS is to gauge the profitability of the company relative to each unit of shareholder ownership. It influences share prices. Its computation is through the division of net income for a given period by the total outstanding shares for the same period. Some of the economic conditions that affect the operations of the business include fluctuations in prices of their products such as crude oil and natural gas, restrictive government regulations, natural disasters like floods as well as curtailment of production and interruption of the availability of transport and other services. For instance, increased activity in the Wattenberg Field has led to stiff competition in terms of processing and transportation, thus adversely affecting the company’s operations in the area. The concentration of the company’s assets in the same area also adversely affects the results of the company’s operations, as any changes in government regulation would hit the company most due to lack of diversification. Due to increased exploration and drilling activity, there has been an increase in demand and hence the cost of equipment, personnel and oil field services has gone up. That adversely affects the company’s operations as it leads to higher expenditures that may not be part of the company’s budget. It thus has a strong financial bearing on the company and may influence results. Recently, the prices of crude oil have registered a fall. The domestic market for natural gas is also quite weak. The fall in crude oil prices and the weak domestic market for natural gas may adversely affect the company’s operational results. Inflation is the continued rise in general price levels over time. The primary cause of inflation would be an increase in aggregate demand, which is a result of increased supply of money in the economy. Deflation refers to the continued fall in general prices of commodities over time. The cause of deflation may be a sustained fall in aggregate demand. That may be due to a decrease in the money supply in the economy, which may due to higher interest rates (Wild, Shaw and Chiapetta, 2011). Expansion is the increase in supply of money in the economy. Expansion may be caused by a fall in interest rates or increase in government expenditure in some sectors. It leads to increased demand for commodities. A recession is a period marked by decreased economic activity. It usually leads to high unemployment. Recession may be attributable to decrease in consumption (that may be due to fears about the future), lack new capital formation, excess inventories, as well as random shocks. Hyperinflation causes uncertainty over the real value of goods. Consumers, therefore, may hesitate to make purchases leading to a fall in demand. That translates to a fall in revenue for firms. On the other hand, mild inflation stimulates the economy. The rise in prices increases revenue for a company and provides an avenue for it to pursue new investment projects. During deflation, consumers may hold back on spending. That is because they hope that prices will drop further hence they would save on their purchases. That may lead to a fall in sales for a company. Deflation may also lead to Lower profit margins for the company. As prices fall, the revenues and profits for the company also fall. In turn, the company may lay off some employees in a bid to reduce labor costs hence leading to unemployment. During recession, there is reduced economic activity. Therefore, consumers reduce their spending and this has the effect of reducing revenues to the company. The Gross Domestic Product is the total monetary value of the finished goods and services whose production is within the borders of a country in a particular period. It takes into consideration government expenditure, both private and public consumption, investments as well as net exports in a country (Wild, Shaw and Chiapetta, 2011). Net exports refer to exports fewer imports. It is a good gauge of the economy and the standards of living. Gross National Product (GNP) refers to the total value of goods and services whose production is attributable to the citizens of a country. It is an addition of the GDP and incomes earned overseas by citizens fewer incomes earned by citizens of other countries living within the borders of the country. It measures the economic performance as well as production by the country’s citizens. The consumer price index is a measure that is useful in the examination of average prices of consumer goods and services within a given consumer basket. It is a result of averaging the price changes of individual items in a basket and weighting them as per importance. The application of CPI is in the assessment of price changes and the cost of living linked to the changes. The main function of the Federal Reserve is to maintain the economic stability of the country. That is through the use of some monetary policy tools such as open market operations, interest rates, and reserve requirements. The decisions by the Federal Reserve Board, therefore, affect the economy. For example, when the Board increases the borrowing rates for the commercial banks in the country, the supply of money in the economy falls. The high-interest rates make limit the banks’ lending and encourage saving thus money is withdrawn from the economy. Through the actions of the Board, there is a control on inflation in the economy. By using the three monetary policy tools, the Federal Reserve Board can affect output, as well as employment in the economy. The Gross Domestic Product, Consumer Price Index, Gross National Product and actions by the Federal Reserve Board all affect the business operations of the company and the results thereof. The GDP, GNP and CPI all measure living standards in a country. By observing them, the company may be able to forecast its sales since any drop in living standards may imply a fall in consumption of consumer goods. As for actions by the Federal Reserve Board, they influence the supply of money in the company. That would also influence consumption depending on the changes. An increase in interest rates may cause a reduction in the money supply in the economy thus subsequently leading to a fall in consumption. It would thus lead to a fall in sales for the company. References Ayres, F. L., Bauman, C. C., Bauman, M. P., & Fan, Y. (2008). Inventory accounting after LIFO. Commercial Lending Review, 17-24. Bloom, R. (2010). Inventory accounting and income taxation. Taxes, 88(5), 77-81. Gray, D., & Ehoff, C., Jr. (2014). Lower of cost or market inventory valuation: IFRS versus US GAAP. Journal of Business & Economics Research, 12(1), 19-21. Spiceland, J. D., Sepe, J. F., & Nelson, M. W. (2013). Intermediate Accounting (7th ed.). New York, NY: McGraw-Hill Irwin. Whittington, O.R., and Delaney, P.R. (2007). Wiley CPA Exam Review 34th Edition. Hoboken, New Jersey: Wiley. Wild, J. J., Shaw, K. W., & Chiappetta, B. (2011). ACCT 211: Principles of Accounting I. Boston: McGraw Hill. Read More