Hans Annan, CFA, a food and beverage analyst, is reviewing Century Chocolate’s inventory policies as part of his evaluation of the company. Century Chocolate, based in Switzerland, manufactures chocolate products and purchases and resells other confectionery products to complement its chocolate line. Annan visited Century Chocolate’s manufacturing facility last year. He learned that cacao beans, imported from Brazil, represent the most significant raw material and that the work-in-progress inventory consists primarily of three items: roasted cacao beans, a thick paste produced from the beans (called chocolate liquor), and a sweetened mixture that needs to be “conched” to produce chocolate. On the tour, Annan learned that the conching process ranges from a few hours for lower-quality products to six days for the highest-quality chocolates. While there, Annan saw the facility’s climate-controlled area where manufactured finished products (cocoa and chocolate) and purchased finished goods are stored prior to shipment to customers. After touring the facility, Annan had a discussion with Century Chocolate’s CFO regarding the types of costs that were included in each inventory category.

Annan has asked his assistant, Joanna Kern, to gather some preliminary information regarding Century Chocolate’s financial statements and inventories. He also asked Kern to calculate the inventory turnover ratios for Century Chocolate and another chocolate manufacturer for the most recent five years. Annan does not know Century Chocolate’s most direct competitor, so he asks Kern to do some research and select the most appropriate company for the ratio comparison.

Kern reports back that Century Chocolate prepares its financial statements in accordance with IFRS. She tells Annan that the policy footnote states that raw materials and purchased finished goods are valued at purchase cost, whereas work in progress and manufactured finished goods are valued at production cost. Raw material inventories and purchased finished goods are accounted for using the FIFO method, and the weighted average cost method is used for other inventories. An allowance is established when the net realizable value of any inventory item is lower than the value calculated previously.

Kern provides Annan with the selected financial statements and inventory data for Century Chocolate. The ratio exhibit Kern prepared compares Century Chocolate’s inventory turnover ratios to those of Gordon’s Goodies, a US-based company. Annan returns the exhibit and tells Kern to select a different competitor that reports using IFRS rather than US GAAP. During this initial review, Annan asks Kern why she has not indicated whether Century Chocolate uses a perpetual or a periodic inventory system. Kern replies that she learned that Century Chocolate uses a perpetual system but did not include this information in her report because inventory values would be the same under either a perpetual or periodic inventory system. Annan tells Kern she is wrong and directs her to research the matter.

While Kern is revising her analysis, Annan reviews the most recent month’s Cocoa Market Review from the International Cocoa Organization. He is drawn to the statement that “the ICCO daily price, averaging prices in both futures markets, reached a 29-year high in US dollar terms and a 23-year high in special drawing rights (SDRs) terms (the SDR unit comprises a basket of major currencies used in international trade: US dollar, euro, pound sterling, and yen).” Annan makes a note that he will need to factor the potential continuation of this trend into his analysis.


Exhibit 1:

Century Chocolate Financial Statements






A. Century Chocolate Income Statements (millions of Swiss francs)


For Years Ended 31 December
2018

2017




Sales
95,290

93,248


Cost of sales
–41,043

–39,047


Marketing, administration, and other expenses
–35,318

–42,481


Profit before taxes
18,929

11,720


Taxes
–3,283

–2,962


Profit for the period
15,646

8,758








B. Century Chocolate Balance Sheets (millions of Swiss francs)


31 December
2018

2017




Cash, cash equivalents, and short-term investments
6,190

8,252


Trade receivables and related accounts, net
11,654

12,910


Inventories, net
8,100

7,039


Other current assets
2,709

2,812


Total current assets
28,653

31,013


Property, plant, and equipment, net
18,291

19,130


Other non-current assets
45,144

49,875


Total assets
92,088

100,018








Trade and other payables
10,931

12,299


Other current liabilities
17,873

25,265


Total current liabilities
28,804

37,564


Non-current liabilities
15,672

14,963


Total liabilities
44,476

52,527








Equity





Share capital
332

341


Retained earnings and other reserves
47,280

47,150


Total equity
47,612

47,491


Total liabilities and shareholders’ equity
92,088

100,018








C. Century Chocolate Supplementary Footnote Disclosures: Inventories (millions of Swiss francs)


31 December
2018

2017




Raw Materials
2,154

1,585


Work in Progress
1,061

1,027


Finished Goods
5,116

4,665


Total inventories before allowance
8,331

7,277


Allowance for write-downs to net realizable value
–231

–238


Total inventories net of allowance
8,100

7,039








D. Century Chocolate Inventory Record for Purchased Lemon Drops


Date

Cartons
Per Unit Amount
(Swiss francs)





Beginning inventory
100
22


4 Feb 2018
Purchase
40
25


3 Apr 2018
Sale
50
32


23 Jul 2018
Purchase
70
30


16 Aug 2018
Sale
100
32


9 Sep 2018
Sale
35
32


15 Nov 2018
Purchase
100
28








E. Century Chocolate Net Realizable Value Information for Black Licorice Jelly Beans



2018

2017




FIFO cost of inventory at 31 December (Swiss francs)
314,890

374,870


Ending inventory at 31 December (kilograms)
77,750

92,560


Cost per unit (Swiss francs)
4.05

4.05


Net Realizable Value (Swiss francs per kilograms)
4.20

3.95








Question


Q. Ignoring any tax effect, the change in net realizable value of the black licorice jelly beans from 2017 to 2018 will most likely result in: