intermediate accounting spiceland 5th 6th 7th edition solution Chap009.docx

intermediate accounting spiceland 5th 6th 7th edition solution Chap009.docx

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intermediateaccountingspiceland5th6th7theditionsolutionChap009

Chapter9Inventories:

AdditionalIssues

QuestionsforReviewofKeyTopics

Question9-1

GAAPgenerallyrequiretheuseofhistoricalcosttovalueassets,butadeparturefromcostisnecessarywhentheutilityofanassetisnolongerasgreatasitscost.Theutilityorbenefitsfrominventoryresultfromtheultimatesaleofthegoods.Thisutilitycouldbereducedbelowcostduetodeterioration,obsolescence,orchangesinpricelevels.Toavoidreportinginventoryatanamountgreaterthanthebenefitsitcanprovide,thelower-of-cost-or-marketapproachtovaluinginventorywasdeveloped.Thisapproachresultsintherecognitionoflosseswhenthevalueofinventorydeclinesbelowitscost,ratherthanintheperiodinwhichthegoodsareultimatelysold.

Question9-2

ThedesignatedmarketvalueintheLCMruleisthemiddlenumberofreplacementcost（RC）,netrealizablevalue（NRV）andnetrealizablevaluelessanormalprofitmargin（NRV-NP）.ThisistheamountcomparedwithcosttodetermineLCM.

Question9-3

TheLCMdeterminationcanbemadebasedonindividualinventoryitems,onlogicalcategoriesofinventory,orontheentireinventory.

Question9-4

Thepreferredmethodistorecordthelossfromthewrite-downofinventoryasaseparateitemintheincomestatementratherthanincludingthewrite-downincostofgoodssold.Alessdesirablealternativeistoincludethelossincostofgoodssold.

Question9-5

Thegrossprofitmethodestimatescostofgoodssold,whichisthensubtractedfromcostofgoodsavailableforsaletoobtainanestimateofendinginventory.Theestimateofcostofgoodssoldisfoundbymultiplyingsalesbythehistoricalratioofcosttosellingprices.Thecostpercentageisthereciprocalofthegrossprofitratio.

Question9-6

Thekeytoobtainingaccurateestimateswhenusingthegrossprofitmethodisthereliabilityofthecostpercentage.Ifthecostpercentageistoolow,costofgoodssoldwillbeunderstatedandendinginventoryoverstated.Costpercentagesusuallyarebasedonrelationshipsofpastyears,whicharen’tnecessarilyrepresentativeofthecurrentrelationship.Failuretoconsidertheftorspoilagealsocouldcauseanoverstatementofendinginventory.

AnswerstoQuestions（continued）

Question9-7

Theretailinventorymethodfirstdeterminestheamountofendinginventoryatretailbysubtractingsalesfortheperiodfromgoodsavailableforsaleatretail.Endinginventoryatretailisthenconvertedtocostbymultiplyingitbythecost-to-retailpercentage.

Question9-8

Themaindifferencebetweenthegrossprofitmethodandtheretailinventorymethodisinthedeterminationofthecostpercentageusedtoconvertsalesatsellingpricestosalesatcost.Theretailinventorymethodusesacostpercentage,calledthecost-to-retailpercentage,whichisbasedonacurrentrelationshipbetweencostandsellingprice.Thegrossprofitmethodreliesonpastdatatoreflectthecurrentcostpercentage.

Question9-9

Initialmarkup—Originalamountofmarkupfromcosttosellingprice.

Additionalmarkup—Increaseinsellingpricesubsequenttoinitialmarkup.

Markupcancellation—Eliminationofanadditionalmarkup.

Markdown—Reductioninsellingpricebelowtheoriginalsellingprice.

Markdowncancellation—Eliminationofamarkdown.

Question9-10

Whenusingtheretailmethodtoestimateaveragecost,thecost-to-retailpercentageisdeterminedbydividingtotalcostofgoodsavailableforsalebytotalgoodsavailableforsaleatretail.Byincludingbeginninginventoryinthecalculationofthecost-to-retailpercentage,thepercentagereflectstheaveragecost/retailrelationshipforallinventories,notjusttheportionacquiredinthecurrentperiod.

Question9-11

Thelower-of-cost-or-market（LCM）retailvariationcombinedwiththeaveragecostmethodiscalledtheconventionalretailmethod.TheLCMruleisincorporatedintotheretailinventoryestimationprocedurebyexcludingmarkdownsfromthecalculationofthecost-to-retailpercentage.

Question9-12

WhenapplyingLIFO,ifinventoryincreasesduringtheyear,noneofthebeginninginventoryisassumedsold.Endinginventoryincludesthebeginninginventoryplusthecurrentyear’slayer.Todeterminelayers,wecompareendinginventoryatretailtobeginninginventoryatretailandassumethatnomorethanoneinventorylayerisaddedifinventoryincreases.Eachlayercarriesitsowncost-to-retailpercentagethatisusedtoconverteachlayerfromretailtocost.

AnswerstoQuestions（continued）

Question9-13

Freight-inisaddedtopurchasesinthecostcolumn.Netmarkupsareaddedintheretailcolumnbeforethecalculationofthecost-to-retailpercentage.Normalspoilageisdeductedintheretailcolumnafterthecalculationofthecost-to-retailpercentage.Ifsalesarerecordednetofemployeediscounts,thediscountsaredeductedintheretailcolumn.

Question9-14

Thedollar-valueLIFOretailmethodeliminatesthestablepriceassumptionofregularretailLIFO.Ineffect,itcombinesdollar-valueLIFO（Chapter8）withLIFOretail.Beforecomparingbeginningandendinginventoryatretailprices,endinginventoryisdeflatedtobaseyearretailusingthecurrentyear’sretailpriceindex.Afteridentifyingthelayersinendinginventorywiththeyearstheywerecreated,inadditiontoconvertingretailpricestocostusingthecost-to-retailpercentage,thedollar-valueLIFOmethodrequiresthateachlayerfirstbeconvertedfrombaseyearretailtolayeryearretailusingtheyear’sretailpriceindex.

Question9-15

Changesininventorymethods,otherthanachangetotheLIFOmethod,arereportedretrospectively.Thismeansreportingallpreviousperiods’financialstatementsasifthenewinventorymethodhadbeenusedinallpriorperiods.

Question9-16

WhenacompanychangestotheLIFOinventorymethodfromanyothermethod,itusuallyisimpossibletocalculatetheincomeeffectonprioryears.TodosowouldrequireassumptionsastowhenspecificLIFOinventorylayerswerecreatedinyearspriortothechange.Asaresult,acompanychangingtoLIFOusuallydoesnotreportthechangeretrospectively.Instead,theLIFOmethodsimplyisusedfromthatpointon.ThebaseyearinventoryforallfutureLIFOdeterminationsisthebeginninginventoryintheyeartheLIFOmethodisadopted.

Question9-17

Ifamaterialinventoryerrorisdiscoveredinanaccountingperiodsubsequenttotheperiodinwhichtheerrorismade,anypreviousyears’financialstatementsthatwereincorrectasaresultoftheerrorareretrospectivelyrestatedtoreflectthecorrection.And,ofcourse,anyaccountbalancesthatareincorrectasaresultoftheerrorarecorrectedbyjournalentry.Ifretainedearningsisoneoftheincorrectaccounts,thecorrectionisreportedasapriorperiodadjustmenttothebeginningbalanceinthestatementofshareholders’equity.Inaddition,adisclosurenoteisneededtodescribethenatureoftheerrorandtheimpactofitscorrectiononnetincome,incomebeforeextraordinaryitem,andearningspershare.

AnswerstoQuestions（concluded）

Question9-18

2009:

Costofgoodssoldoverstated

Netincomeunderstated

Endingretainedearningsunderstated

2010:

Netpurchasesnoeffect

Costofgoodssoldunderstated

Netincomeoverstated

Endingretainedearningscorrect

Question9-19

Whenapplyingthelower-of-cost-or-marketruleforvaluinginventoryaccordingtoU.S.GAAP,marketisdefinedasreplacementcostwithaceilingofnetrealizablevalue（NRV）andafloorofNRVlessanormalprofitmargin.However,thedesignatedmarketvalueaccordingtoIASNo.2alwaysisnetrealizablevalue.IASNo.2alsospecifiesthatifcircumstancesrevealthataninventorywrite-downisnolongerappropriate,itmustbereversed.ReversalsarenotpermittedunderU.S.GAAP.

Question9-20

Purchasecommitmentsarecontractsthatobligatethecompanytopurchaseaspecifiedamountofmerchandiseorrawmaterialsatspecifiedpricesonorbeforespecifieddates.Theseagreementsareenteredintoprimarilytosecuretheacquisitionofneededinventoryandtoprotectagainstincreasesinpurchaseprice.

Question9-21

Purchasesmadepursuanttoapurchasecommitmentarerecordedatthelowerofcontractpriceormarketpriceonthedatethecontractisexecuted.Alossisrecognizedifthemarketpriceislessthanthecontractprice.Forpurchasecommitmentsoutstandingatyear-end,alossisrecognizedifthemarketpriceatyear-endislessthanthecontractprice.

BRIEFEXERCISES

BriefExercise9-1

NRV=$30-4=$26

NRV–NP=$26–（30%x$30）=$17

RC=$18

ThedesignatedmarketisthemiddlevalueofNRV,NRV-NP,andRC,whichis$18.Sincethisislowerthanthecostof$20,theunitvalueis$18.

BriefExercise9-2

（1）

（2）

（3）

（4）

（5）

Product

RC

Ceiling

NRV（*）

Floor

NRV-NP

（**）

DesignatedMarketValue

[Middlevalueof

（1）,

（2）&（3）]

Cost

PerUnit

InventoryValue

[Lowerof（4）and（5）]

1

$48

$64

$54

$54

$50

$50

2

26

32

24

26

30

26

*Sellingpricelessdisposalcosts.

**NRVlessnormalprofitmargin

CostLCM

Product1（1,000units）$50,000$50,000

Product2（1,000units）30,00026,000

Cost$80,000

LCMvalue$76,000

Before-taxincomewillbelowerby$4,000,theamountoftherequiredinventorywrite-down.

BriefExercise9-3

ThedesignatedmarketvalueaccordingtoIFRSalwaysisnetrealizablevalue.

ProductCostNRV*LCM

1$50$64$50

2.303230

*Sellingpricelessdisposalcosts.

Becausecostislowerthanmarketforbothproducts,n