Posted: February 23rd, 2016

Prepare the journal entries that would have been passed in August and September, when Al ordered the transactions to be recorded, and the adjusting entries at December 31 2019 (assume all changes in the original entries happened at December 31 2019).

his question also relates to Al and the same company. In August 2019, Kelly Ltd contacted the company and made the following proposal. Kelly said that it wanted to ensure supply of its inventory from the company, particularly for the Christmas sales season, so it wanted to place a large order in September 2019 (7,000 units with a total cost to Kelly of $486,000). These units had cost the company $130,000 to make). However, Kelly does not have adequate storage to hold all the extra inventory, so it asked if the company could hold this inventory for Kelly and deliver it when needed. Kelly was happy to pay $40,000 for this. The company agreed to this, a contract was signed and Kelly received an invoice in late August 2019. Kelly will pay for the storage as the inventory leaves the company’s warehouse. This inventory was placed in a locked section of the company’s warehouse, with a sign on the door indicating this was Kelly’s inventory and was not to be delivered to other customers. By the end of 2019, 80% of this inventory had been delivered to Kelly and paid for. Kelly had also paid for 80% of the expected storage costs. Kelly will pay for the remaining inventory and storage costs in January 2020.

In September 2019 Al decided to adopt the Kelly transaction, as it offered a way to increase sales and profits of the company. A senior sales manager contacted Lee Ltd., a major customer and made the following offer. If Lee increased its orders by 5 percent above the number of units purchased for the October – December quarter in the previous year, it would receive a 10 percent discount on the purchase price. Further, the company would hold on to the stock for Lee and deliver it when asked to. Al thought this would be attractive to Lee, as it would reduce its storage costs. If Lee did not accept this offer, it would be excluded from future special offers, such as discounts. You are advised that in the relevant quarter of the previous year, Lee bought 10,000 units of inventory. This many items currently cost the company $200,000 to make and have a gross selling price of $695,000. Al estimated that Lee will pay the company $50,000 to store the inventory. In September 2019 Lee indicated it would accept these terms, and increased its order for the October – December quarter by 5 percent, but that it was not happy with the threat. An invoice was issued to Lee by the end of September.
Al ordered that the Kelly transaction and the Lee transactions be recorded as sales in August and September 2019. The company uses the perpetual inventory system. You can ignore GST.
Required
a) Prepare the journal entries that would have been passed in August and September, when Al ordered the transactions to be recorded, and the adjusting entries at December 31 2019 (assume all changes in the original entries happened at December 31 2019). (10 marks)

b) Prepare the journal entries that should have been passed in August, September, and December 31. You must justify your answer with reference to specific accounting rules (AASB XXX, para y, or something similar). If you think the journal entries in (a) are appropriate, you must state this and justify your answer. (20 marks)