Lecture%204-5%20PII%20%5bInstructor%20version%5d

Lecture%204-5%20PII%20%5bInstructor%20version%5d - Week 4-5...

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Week 4-5 Part II Inventories
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2 bjectives Objectives 1. Understand the lower of cost or market method. 2. Understand purchase obligations and product financing arrangements. 3. Estimate cost of ending inventory: gross profit method and retail inventory method. 4. Understand the effects of inventory errors on e financial statements. the financial statements.
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1. Lower of cost and market: 3 Concept h l f t k t (LCM) l i th t ± The lower of cost or market (LCM) rule requires that a company recognize a decline in the inventory's utility as a loss of the period, and that the company write down its ending ventory to the market value This rule is consistent with the inventory to the market value. This rule is consistent with the conservatism convention. ± Concepts Market value is defined as the current replacement cost of inventory (not the current selling price) by purchase or manufacture, with upper and lower constraints imposed. eiling constraint: The market value cannot be greater than the Ceiling constraint: The market value cannot be greater than the net realizable value (estimated selling price in the ordinary course of business less reasonably predictable costs of completion and disposal). Floor constraint: The market value cannot be less than the net realizable value reduced by a normal profit margin (normal markup).
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4 Lower of Cost or Market Inventory: Estimated selling price in completed condition $1,150 Less: Estimated costs to complete and sell 150 Net realizable value (ceiling) $1,000 Less: normal profit 100 RV less normal profit loor) 900 NRV less normal profit (floor) $ Continued
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5 ower of Cost or Market Lower of Cost or Market
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6 Lower of Cost or Market Example A company’s unit of inventory has the following characteristics: elling price 165 Selling price $165 Packaging cost 10 ransportation cost 5 Transportation cost 15 Profit margin 40
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7 elling price 165 Selling price $165 Cost of completion (10) Transportation cost (15) Case 1 p ( ) Ceiling (NRV) $140 Ceiling $140 ormal profit 40 No a p o t (0 ) Floor $100
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8 l l i i 165 Cost = 110 Case 1 Selling price $165 Cost of completion (10) ransportation cost 5 $110 Transportation cost (15 ) Ceiling (NRV) $140 Current Replacement Market = Cost = $120 $120 CM is the LCM is the cost of Ceiling $140 ormal profit 40 No a p o t (0 ) Floor $100
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9 l l i i 165 Cost = 110 Case 2 Selling price $165 Cost of completion (10) ransportation cost 5 $110 Transportation cost (15 ) Ceiling (NRV) $140 Current Replacement Market = 140 Cost = $150 CM is the $140 LCM is the cost of Ceiling $140 ormal profit 40 No a p o t (0 ) Floor $100
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10 l l i i 165 Cost = 110 Case 3 Selling price $165 Cost of completion (10) ransportation cost 5 $110 Transportation cost (15 ) Ceiling (NRV) $140 Current Replacement Market = Cost = $75 CM is the $120 LCM is the cost of Ceiling $140 ormal profit 20 No a p o t (0 ) Floor $120
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11 ower of Cost or Market l l i i 165 Lower of Cost or Market Selling price $165 Cost of completion (10) ransportation cost 5 Cost = 110 Case 4 Transportation cost (15 ) Ceiling (NRV) $140 $110 Current Replacement Market = Cost = $105 CM is the $105 LCM is the market of 105 Ceiling $140 ormal profit 40 $105 No a p o t (0 ) Floor $100
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1. Lower of cost and market: 12
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Lecture%204-5%20PII%20%5bInstructor%20version%5d - Week 4-5...

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