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Inventory LCM: Applying lower of cost or market

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What approaches may be used in applying the lower of cost or market procedure? Which is normally used and why?

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The lower of cost or market rule can be used either by apply it directly to each individual item in inventory, to each category of inventory or to the total of the inventory as a whole.

If you use a major category or inventory as a whole, increases in market prices in some items will offset the decreases in market prices of other items.

For example:
.............................................cost..........market
Green items.......................$50.00..........$70.00
Orange items......................$30.00.........$20.00
Color category....................$80.00.........$90.00

Round items......................$90.00...........$40.00
Square items.....................$95.00............$85.00
Shape category.................$185.00........$125.00

Overall ...

Solution Summary

Your tutorial is 223 words and includes three exhibits to show you the three potential approaches to applying the lower of cost or market. The most common method is discussed along with a reason most do it that way.

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See Also This Related BrainMass Solution

Statement and Note Disclosure, LCM, and Purchase Commitment

Garth Brooks Specialty Company, a division of Fresh Horses Inc., manufactures three models of gear shift components for bicycles that are sold to bicycle manufacturers, retailers, and catalog outlets. Since beginning operations in 1975, Brooks has used normal absorption costing and has assumed a first-in, first-out cost flow in its perpetual inventory system. The balances of the inventory accounts at the end of Brooks's fiscal year, November 30, 2007, are shown below. The inventories are stated at cost before any year-end adjustments.

Finished goods $647,000
Work-in-process 112,500
Raw materials 240,000
Factory supplies 69,000

The following information relates to Brooks's inventory and operations.

1. The finished goods inventory consists of the items analyzed below.
Cost Market
Down tube shifter
Standard model $67,500 $ 67,000
Click adjustment model 94,500 87,000
Deluxe model 108,000 110,000
Total down tube shifters 270,000 264,000

Bar end shifter
Standard model 83,000 90,050
Click adjustment model 99,000 97,550
Total bar end shifters 182,000 187,600

Head tube shifter
Standard model 78,000 77,650
Click adjustment model 117,000 119,300
Total head tube shifters 195,000 196,950

Total finished goods $647,000 $648,550

2. One-half of the head tube shifter finished goods inventory is held by catalog outlets on consignment.
3. Three-quarters of the bar end shifter finished goods inventory has been pledged as collateral for a bank loan.
4. One-half of the raw materials balance represents derailleurs acquired at a contracted price 20 percent above the current market price. The market value of the rest of the raw materials is $127,400.
5. The total market value of the work-in-process inventory is $108,700.
6. Included in the cost of factory supplies are obsolete items with an historical cost of $4,200. The market value of the remaining factory supplies is $65,900.
7. Brooks applies the lower-of-cost-or-market method to each of the three types of shifters in finished goods inventory. For each of the other three inventory accounts, Brooks applies the lower-of-cost-of-market method to the total of each inventory account.
8. Consider all amounts presented above to be material in relation to Brooks' financial statements taken as a whole.

Instructions:
(a) Prepare the inventory section of Brooks's balance sheet as of November 30, 2007, including any
required note(s).

(b) Without prejudice to your answer to (a), assume that the market value of Brooks' inventories is
less than cost. Explain how this decline would be presented in Brooks' income statement for the
fiscal year ended November 30, 2007.

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