Reading and Interpreting Gap Inc.’s Inventory Note The 2006 annual report for Gap Inc. includes…

Reading and Interpreting Gap Inc.’s Inventory Note The 2006 annual report for Gap Inc. includes…

Reading and Interpreting Gap Inc.’s Inventory Note

The 2006 annual report for Gap Inc. includes the following information in the note that summarizes

its accounting policies:

Merchandise Inventory

In fiscal 2005, we implemented a new inventory system and effective January 29, 2006 (the

beginning of fiscal 2006), we changed our inventory flow assumption from the first-in, first-out

(“FIFO”) method to the weighted average cost method (“WAC”). The change in inventory

accounting method did not have a material impact on the fiscal 2006 financial statements and,

because the effect on prior periods presented is not material, they have not been restated as

would be required by SFAS 154.

We review our inventory levels in order to identify slow-moving merchandise and broken

assortments (items no longer in stock in a sufficient range of sizes) and use markdowns to clear

merchandise. We value inventory at the lower of cost or market and record a reserve when future

estimated selling price is less than cost. In addition, we estimate and accrue shortage for the period

between the last physical count and the balance sheet date. Our shortage estimate can be affected

by changes in merchandise mix and changes in actual shortage trends. We estimate and accrue

shortage for the period between the last physical count and the balance sheet date. Our shortage

estimate can be affected by changes in merchandise mix and changes in actual shortage trends.

Required

1. What inventory costing method did Gap Inc. use prior to the 2006 fiscal year?

2. What inventory costing method did Gap Inc. change to beginning with the 2006 fiscal year?

Why would a company decide to change its inventory method?

3. Gap Inc. values its inventory at the lower of cost or market. How does the company define

market? What factors does it take into account in deciding whether to write down its inventory?

 

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