Inventory Valuation Issues

1. Inventory Valuation Issues Sid Glandon, DBA, CPA Associate Professor of Accounting

2. Lower of Cost or Market • Historical cost principle is violated • Conservative approach • Recognize loss in period incurred not the period that the sale is made • Lower of cost or market • The lesser of • Cost, or • Designated market

3. Designated Market • Replacement cost • But not more than the CEILING • net realizable value • Selling price less cost of completion and disposal • Or less than the FLOOR • net realizable value less normal profit margin

4. Lower of Cost or Market • If designated market is lower, record the loss using the • Direct method • Charge to inventory • with the debit to cost of goods sold, or • if material, loss on reduction to LCM • Indirect method • Charge an allowance account to reduce inventory to market

8. Gross Profit Method of Estimating Inventory • Assumptions • Beginning inventory plus purchases equals goods available for sale • Goods not sold must be on hand • Goods available for sale less cost of goods sold (sales at cost) equals ending inventory

12. Retail Inventory Method • Used in retail • Assumes • High volume of sales • Different types of merchandise • Observable pattern between cost and prices • Determine ending inventory at retail • Convert to cost basis

14. Analysis of Inventory • Inventory turnover ratio • Number of times on average the inventory was sold during the period • Calculated as • Cost of goods sold ÷ Average inventory

15. Example: Inventory turnover ratio • Cost of goods sold = $1,440,000 • Beginning inventory = $150,000 • Ending inventory = $170,000

16. Example: Inventory turnover ratio