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

1、intermediate accounting spiceland 5th 6th 7th edition solution Chap009Chapter 9 Inventories: Additional IssuesQuestions for Review of Key TopicsQuestion 9-1 GAAP generally require the use of historical cost to value assets, but a departure from cost is necessary when the utility of an asset is no lo

2、nger as great as its cost. The utility or benefits from inventory result from the ultimate sale of the goods. This utility could be reduced below cost due to deterioration, obsolescence, or changes in price levels. To avoid reporting inventory at an amount greater than the benefits it can provide, t

3、he lower-of-cost-or-market approach to valuing inventory was developed. This approach results in the recognition of losses when the value of inventory declines below its cost, rather than in the period in which the goods are ultimately sold.Question 9-2 The designated market value in the LCM rule is

4、 the middle number of replacement cost (RC), net realizable value (NRV) and net realizable value less a normal profit margin (NRV-NP). This is the amount compared with cost to determine LCM.Question 9-3 The LCM determination can be made based on individual inventory items, on logical categories of i

5、nventory, or on the entire inventory.Question 9-4 The preferred method is to record the loss from the write-down of inventory as a separate item in the income statement rather than including the write-down in cost of goods sold. A less desirable alternative is to include the loss in cost of goods so

6、ld.Question 9-5 The gross profit method estimates cost of goods sold, which is then subtracted from cost of goods available for sale to obtain an estimate of ending inventory. The estimate of cost of goods sold is found by multiplying sales by the historical ratio of cost to selling prices. The cost

7、 percentage is the reciprocal of the gross profit ratio.Question 9-6 The key to obtaining accurate estimates when using the gross profit method is the reliability of the cost percentage. If the cost percentage is too low, cost of goods sold will be understated and ending inventory overstated. Cost p

8、ercentages usually are based on relationships of past years, which arent necessarily representative of the current relationship. Failure to consider theft or spoilage also could cause an overstatement of ending inventory.Answers to Questions (continued)Question 9-7 The retail inventory method first

9、determines the amount of ending inventory at retail by subtracting sales for the period from goods available for sale at retail. Ending inventory at retail is then converted to cost by multiplying it by the cost-to-retail percentage.Question 9-8 The main difference between the gross profit method an

10、d the retail inventory method is in the determination of the cost percentage used to convert sales at selling prices to sales at cost. The retail inventory method uses a cost percentage, called the cost-to-retail percentage, which is based on a current relationship between cost and selling price. Th

11、e gross profit method relies on past data to reflect the current cost percentage.Question 9-9 Initial markup Original amount of markup from cost to selling price.Additional markup Increase in selling price subsequent to initial markup.Markup cancellation Elimination of an additional markup.Markdown

12、Reduction in selling price below the original selling price.Markdown cancellation Elimination of a markdown.Question 9-10 When using the retail method to estimate average cost, the cost-to-retail percentage is determined by dividing total cost of goods available for sale by total goods available for

13、 sale at retail. By including beginning inventory in the calculation of the cost-to-retail percentage, the percentage reflects the average cost/retail relationship for all inventories, not just the portion acquired in the current period.Question 9-11 The lower-of-cost-or-market (LCM) retail variatio

14、n combined with the average cost method is called the conventional retail method. The LCM rule is incorporated into the retail inventory estimation procedure by excluding markdowns from the calculation of the cost-to-retail percentage.Question 9-12 When applying LIFO, if inventory increases during t

15、he year, none of the beginning inventory is assumed sold. Ending inventory includes the beginning inventory plus the current years layer. To determine layers, we compare ending inventory at retail to beginning inventory at retail and assume that no more than one inventory layer is added if inventory

16、 increases. Each layer carries its own cost-to-retail percentage that is used to convert each layer from retail to cost.Answers to Questions (continued)Question 9-13Freight-in is added to purchases in the cost column. Net markups are added in the retail column before the calculation of the cost-to-r

17、etail percentage. Normal spoilage is deducted in the retail column after the calculation of the cost-to-retail percentage. If sales are recorded net of employee discounts, the discounts are deducted in the retail column.Question 9-14 The dollar-value LIFO retail method eliminates the stable price as

18、sumption of regular retail LIFO. In effect, it combines dollar-value LIFO (Chapter 8) with LIFO retail. Before comparing beginning and ending inventory at retail prices, ending inventory is deflated to base year retail using the current years retail price index. After identifying the layers in endin

19、g inventory with the years they were created, in addition to converting retail prices to cost using the cost-to-retail percentage, the dollar-value LIFO method requires that each layer first be converted from base year retail to layer year retail using the years retail price index.Question 9-15Chang

20、es in inventory methods, other than a change to the LIFO method, are reported retrospectively. This means reporting all previous periods financial statements as if the new inventory method had been used in all prior periods.Question 9-16 When a company changes to the LIFO inventory method from any o

21、ther method, it usually is impossible to calculate the income effect on prior years. To do so would require assumptions as to when specific LIFO inventory layers were created in years prior to the change. As a result, a company changing to LIFO usually does not report the change retrospectively. Ins

22、tead, the LIFO method simply is used from that point on. The base year inventory for all future LIFO determinations is the beginning inventory in the year the LIFO method is adopted.Question 9-17 If a material inventory error is discovered in an accounting period subsequent to the period in which th

23、e error is made, any previous years financial statements that were incorrect as a result of the error are retrospectively restated to reflect the correction. And, of course, any account balances that are incorrect as a result of the error are corrected by journal entry. If retained earnings is one o

24、f the incorrect accounts, the correction is reported as a prior period adjustment to the beginning balance in the statement of shareholders equity. In addition, a disclosure note is needed to describe the nature of the error and the impact of its correction on net income, income before extraordinary

25、 item, and earnings per share.Answers to Questions (concluded)Question 9-18 2009: Cost of goods sold overstated Net income understated Ending retained earnings understated 2010: Net purchases no effect Cost of goods sold understated Net income overstated Ending retained earnings correctQuestion 9-19

26、 When applying the lower-of-cost-or-market rule for valuing inventory according to U.S. GAAP, market is defined as replacement cost with a ceiling of net realizable value (NRV) and a floor of NRV less a normal profit margin. However, the designated market value according to IAS No. 2 always is net r

27、ealizable value. IAS No. 2 also specifies that if circumstances reveal that an inventory write-down is no longer appropriate, it must be reversed. Reversals are not permitted under U.S. GAAP.Question 9-20 Purchase commitments are contracts that obligate the company to purchase a specified amount of

28、merchandise or raw materials at specified prices on or before specified dates. These agreements are entered into primarily to secure the acquisition of needed inventory and to protect against increases in purchase price.Question 9-21 Purchases made pursuant to a purchase commitment are recorded at t

29、he lower of contract price or market price on the date the contract is executed. A loss is recognized if the market price is less than the contract price. For purchase commitments outstanding at year-end, a loss is recognized if the market price at year-end is less than the contract price.BRIEF EXER

30、CISESBrief Exercise 9-1NRV = $30 - 4 = $26NRV NP = $26 (30% x $30) = $17RC = $18The designated market is the middle value of NRV, NRV-NP, and RC, which is $18. Since this is lower than the cost of $20, the unit value is $18.Brief Exercise 9-2(1)(2)(3)(4)(5)ProductRCCeilingNRV (*)FloorNRV-NP(*)Design

31、ated Market ValueMiddle value of (1), (2) & (3)CostPer UnitInventory ValueLower of (4) and (5)1$48$64$54$54$50$502 2632 24263026 * Selling price less disposal costs. * NRV less normal profit margin Cost LCMProduct 1 (1,000 units) $50,000 $50,000Product 2 (1,000 units) 30,000 26,000 Cost $80,000 LCM

32、value $76,000Before-tax income will be lower by $4,000, the amount of the required inventory write-down.Brief Exercise 9-3The designated market value according to IFRS always is net realizable value.Product Cost NRV* LCM 1 $50 $64 $50 2. 30 32 30 * Selling price less disposal costs.Because cost is lower than market for both products, n