SSNT9_Invent_addl - Inventories: Additional Issues...

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Inventories: Additional Issues
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Reporting – Lower of Cost or Market GAAP requires that inventories be carried at cost or current market value, whichever is lower. LCM is a departure from historical cost.
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Determining Market Value Market Should Not Exceed Net Realizable Value ( Ceiling ) Market Should Not Be Less Than Net Realizable Value less Normal Profit ( Floor ) Accounting Research Bulletin No. 43 defines “market value” in terms of current replacement cost. Replacement cost is constrained to fall between the “ceiling” and the “floor.”
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Determining Market Value Ceiling NRV Replacement Cost NRV – NP Floor Designated Market Cost Not More Than Not Less Than Or Step 1 Determine Designated Market Step 2 Compare Designated Market with Cost Lower of Cost Or Market
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Lower of Cost of Market An item in inventory has a historical cost of $20 per unit. At year-end we gather the following per unit information: current replacement cost = $21.50 selling price = $30 cost to complete and dispose = $4 normal profit margin of = $5 How would we value this item in the Balance Sheet?
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Lower of Cost of Market Replacement Cost =$21.50 Selling Price - Cost to Complete = Ceiling $ 30.00 - $ 4.00 = $ 26.00 - Normal Profit = Floor $ 26.00 - $ 5.00 = $ 21.00 $21.50 Designated Market? Historical cost of $20.00 is less than designated market of $21.50, so this inventory item will be valued at cost of $20.00.
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Lower of Cost or Market • The determination of inventory value is a two-step process: 1. Determine the designated market value 2. Compare the designated market value to cost. The lower of the two is the LCM inventory value.
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Lower of Cost or Market The Licht Company has five inventory items on hand at the end of 2009. The year-end unit costs (determined by applying the average cost method), current unit selling prices, and estimated disposal (selling) costs for each of the items are presented below. The gross profit ratio for each of the products is 20% of selling price. Item Cost Replacement Cost Selling Price Estimated Disposal Costs A $50 $55 $100 $15 B 100 90 120 20 C 80 70 85 20 D 90 37 100 24 E 95 92 110 24
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Lower of Cost or Market Example for item B: Selling price $120 Less: Disposal costs (20) NRV 100 Less: Normal profit (24) ($120 selling price* 20%) NRV – NP $76 (1) (2) (3) (4) (5) Item RC NRV NRV – NP Designated Mkt Vale [Middle of (1), (2) & (3)] Cost Inventory Value [Lower of (4) or (5)] A $55 $85 $65 $65 $50 $50 B 90 100 76 90 100 90 C 70 65 48 65 80 65 D 37 76 56 56 90 56 E 92 86 64 86 95 86
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International Financial Reporting Standards Lower of cost or market. International standards also require inventory to be valued at the lower of cost or market. You just learned that in the U.S., market is designated as replacement cost with a ceiling of net realizable value (NRV) and a floor of NRV less a normal profit margin. However, the designated market value according to IAS No. 2 always is net realizable value.
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SSNT9_Invent_addl - Inventories: Additional Issues...

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