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Is "purchases" under balance sheet or income statement?

I just stumbled across a question regarding temporal v current rate and what happens to the following ratios when foreign currency is depreciating.

Payable turnover ratio = purchase / average payable
Quick ratio = (Cash + marketable securities + receivables) / CL
Inventory turnover ratio = COGS / average inventory


From my understanding quick ratio is a pure balance sheet ratio so no changes and inventory turnover ratio is definitely a mixed (cogs in I/S and inventory in B/S).
My question is where does purchases go? E.g. inventory would be under B/S and COGS would be under I/S.



Zee

Comments

  • @vincentt, I think this is an excellent question, shows that you think deeply about the question!

    Purchases is a figure you have to derive from starting and ending stock levels, as well as COGS.

    Purchases = COGS + Ending inventory – Starting inventory

    So it has I/S elements in it, and therefore you can proceed to interpret the effect on the ratios accordingly.
  • @sophie thanks for the quick reply as always!

    In the current method:
    COGS -> average rate
    Inventory -> current rate

    In the temporal method:
    COGS -> historical
    Inventory -> Historical

    Payable - current rate for both


    however, it seems like the answer is saying the inventory turnover is the only ratio that would change which is kinda confusing as if the purchase is using an average rate then it would not be pure as the payable is definitely a current rate.


  • @vincentt, I suspect there's more info to your question that I may have missed. Would you paste the whole lot?
  • @vincentt, is the question multiple choice, asking which ratio would be differ between the 2 methods?

    Because as it stands my assessment is similar to yours, even if payables ratio is in some case defined as COGS/avg payable, as COGS are treated differently in both methods, where the denominator (payables) as you said are both the same for payables.

    I wonder if there is more info in the question? Can you share it with us?
  • Based on my understanding of the question (which of the 3 ratios is affected in all current vs. temporal), the only thing I can justify the answer is that there is a sub-case for payables turnover (using the COGS/avg payables definition) where it's the same for both methods.

    It's where you use LIFO method for inventory, then COGS uses average rate under temporal.

    Ahhhh, you can see I'm getting frustrated too! ~X(
  • I think we need to see the question!
    Zee
  • Sophie said:

    @vincentt, is the question multiple choice, asking which ratio would be differ between the 2 methods?

    Because as it stands my assessment is similar to yours, even if payables ratio is in some case defined as COGS/avg payable, as COGS are treated differently in both methods, where the denominator (payables) as you said are both the same for payables.

    I wonder if there is more info in the question? Can you share it with us?

    Sorry for the late reply, was busy diving into CFA materials over the weekend.

    The question is from 7city's portal and it's an 'image', so would be a pain to type it out.

    To summarise, (as far as I could see, you could pretty much ignore the entirely vignette) the question is asking if you were to change from current rate method to temporal method, which of the 3 ratios would change.

    1. payable turnover ratio = (purchase / average payable)
    Current method -> purchases = ? ; average payable = in b/S hence current rate
    Temporal method -> purchases = ? ; average payable = in B/S hence historical
    - i'm not sure what rate does "purchases" use, hence i'm not able to come to any conclusion.


    2. quick ratio = (CA - inventory) / CL
    Current method -> CA & CL = uses current rate
    Temporal method -> CA & CL = uses historical rate (if not mistaken?)
    - both numerator and denominator are using the same rate for each of their own method hence it will produce the same ratio.

    3. inventory turnover = cogs / average inventory
    Current method -> cogs = in I/S hence average rate; average inventory = in B/S hence current rate
    Temporal method -> cogs = historical; average inventory = i believe historical

    - since both uses different type of rates the ratio will be different


    right answer is 3 (inventory turnover), that's the only ratio that will change when the company changes it's method from current to temporal.
  • @vincentt - I think we all agree that your assessment of quick ratio and inventory turnover is correct. Inventory turnover will be different here, hence the obvious answer.

    On payables turnover ratio, average payables is a monetary liability, hence I believe they are both current rate under all current and temporal methods.

    As mentioned previously, the only way I could justify the answer is that there is a sub-case for payables turnover (using the COGS/avg payables definition) where it's the same for both methods.

    It's where you use LIFO method for inventory, then COGS uses average rate under temporal, same as COGS' treatment under all current method.

    Regardless the LIFO or FIFO inventory method, the inventory turnover ratio is still different for both methods.

    Anyone else care to share some light here, my brain may have gone rusty here. @Diya, @MattJuniper, @AjFinance?
  • thanks @sophie

    i hope I did not violate any rules by linking directly to the cfa prep..

    The vignette:

    Winstanley is a US based multinational which bought a Hong Kong subsidiary, Milton, on January 1, 2009. No new fixed assets were bought by Milton until July 1, 2011and the depreciation relating to these new assets was HKD 10 million in the year to December 31, 2011. Purchases are made evenly over the year and held in inventory for 3 months.

    The functional currency of the Hong Kong subsidiary has been identified as the HKD but the board are now questioning the CFO, Henry More, about this.

    image
  • @sophie X_X !! I got owned by one sentence!!!

    so back to the question:

    1. payable turnover ratio = (purchase / average payable)
    Current method -> purchases = ? ; average payable = in b/S hence current rate
    Temporal method -> purchases = ? ; average payable = in B/S hence historical

    I agreed with you regarding the use of average rate for purchases but wouldn't that changes the ratio based on what you mentioned above

    temporal = average rate / historical
    current = average rate / current rate

    wouldn't the ratio be different based on your assumptions on the rates?
  • ZeeZee London - UKPosts: 1,544 Jr Partner
    edited April 2013
    @vincentt FYI sharing individual questions for discussion should be fine under fair use so don't worry. If we get complaints we'll take it down, but I doubt we will.
  • @sophie ops i did! I haven't got my notes at work, only remembered monetary assets and liabilities must use current rate for both methods.

    and yes you have answered my question. Thanks for that and sorry for not posting the full question any sooner!!
    :-bd
  • No problemo @vincentt, we're always here to help! Good luck with the revision and keep me updated on your progress then!
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