International accounting standards do not allow the

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provides protection against inflation. International accounting standards do not allow the use of LIFO. Because of this, the net income of foreign oil companies such as BP and Royal Dutch Shell are not directly compara- ble to U.S. companies, which makes analysis difficult. Source: David Reilly, “Big Oil’s Accounting Methods Fuel Criticism,” Wall Street Journal, August 8, 2006, p. C1. What are the arguments for and against the use of LIFO? I N T E R N A T I O N A L I N S I G H T Lower-of-Cost-or-Market The value of inventory for companies selling high-technology or fashion goods can drop very quickly due to changes in technology or fashions. These circumstances sometimes call for inventory valuation methods other than those presented so far. For example, purchasing managers at Ford decided to make a large purchase of palladium, a precious metal used in Explain the lower-of-cost-or-market basis of accounting for inventories. S T U D Y O B J E C T I V E 4 PDF Watermark Remover DEMO : Purchase from to remove the watermark
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vehicle emission devices. They made this purchase because they feared a future shortage.The shortage did not materialize,and by the end of the year the price of pal- ladium had plummeted.Ford’s inventory was then worth $1 billion less than its original cost. Do you think Ford’s inventory should have been stated at cost, in accordance with the cost principle, or at its lower replacement cost? As you probably reasoned, this situation requires a departure from the cost basis of accounting. When the value of inventory is lower than its cost, companies can “write down” the inventory to its market value.This is done by valuing the inventory at the lower-of-cost-or-market (LCM) in the period in which the price decline occurs. LCM is an example of the accounting con- cept of conservatism ,which means that the best choice among accounting al- ternatives is the method that is least likely to overstate assets and net income. Companies apply LCM to the items in inventory after they have used one of the cost flow methods (specific identification, FIFO, LIFO, or average cost) to de- termine cost. Under the LCM basis, market is defined as current replacement cost , not selling price.For a merchandising company,market is the cost of purchasing the same goods at the present time from the usual suppliers in the usual quantities. Current replacement cost is used because a decline in the replacement cost of an item usually leads to a decline in the selling price of the item. To illustrate the application of LCM, assume that Ken Tuckie TV has the fol- lowing lines of merchandise with costs and market values as indicated. LCM pro- duces the results shown in Illustration 6-15. Note that the amounts shown in the final column are the lower-of-cost-or-market amounts for each item.
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