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CHAPTER 9 SOLUTIONS  

EXERCISE 9-2 -VIP

 







Item

 




Net Realizable Value (Ceiling)

 

Net Realizable Value Less Normal Profit (Floor)

 






Replacement Cost

 






Designated Market

 







Cost

 







LCM

D

 

$90*

 

 $70**

 

$120

 

$90

 

$75

 

$75

E

 

80

 

60

 

    72

 

  72

 

  80

 

  72

F

 

65

 

45

 

    70

 

  65

 

  80

 

  65

G

 

65

 

45

 

    30

 

  45

 

  80

 

  45

H

 

80

 

60

 

    70

 

  70

 

  50

 

  50

I

 

60

 

40

 

    30

 

  40

 

  36

 

  36

 

 

 

 

 

 

 

 

 

 

 

 

 

  *Estimated selling price—Estimated selling expense = $120 – $30 = $90.

**$90 – $20 = $70.

 

EXERCISE 9-5

 

(a)

February

 

March

 

April

Sales

$29,000

 

$35,000

 

$40,000

Cost of goods sold

 

 

 

 

 

        Inventory, beginning

  15,000

 

  15,100

 

  17,000

        Purchases

  20,000

 

  24,000

 

  26,500

        Cost of goods available

  35,000

 

  39,100

 

  43,500

        Inventory, ending

  15,100

 

  17,000

 

  13,000

                 Cost of goods sold

  19,900

 

  22,100

 

  30,500

Gross profit

    9,100

 

  12,900

 

    9,500

Gain (loss) due to market

 

 

 

 

 

   fluctuations of inventory*

    (2,000)

 

    1,100

 

       700

 

$  7,100

 

$14,000

 

$10,200

 

*

Jan. 31

 

Feb. 28

 

Mar. 31

 

Apr. 30

Inventory at cost

$15,000

 

$15,100

 

$17,000

 

$13,000

Inventory at the lower of cost
   or market


  14,500

 


  12,600

 


  15,600

 


  12,300

Allowance amount needed to
   reduce inventory to market


$     500

 


$  2,500

 


$  1,400

 


$     700

Gain (loss) due to market
   fluctuations of inventory**

 

 


$  (2,000
)

 


$  1,100

 


$     700

**$500 – $2,500 = $(2,000)

   $2,500 – $1,400 = $1,100

   $1,400 – $700 = $700

 

(b)

Jan. 31

Loss Due to Market Decline of Inventory..........................

500

 

 

 

            Allowance to Reduce Inventory
               to Market............................................................

 


500

 

 

 

 

 

 

Feb. 28

Loss Due to Market Decline of Inventory..........................

2,000

 

 

 

            Allowance to Reduce Inventory
               to Market............................................................

 


2,000

 

 

 

 

 

 

Mar. 31

Allowance to Reduce Inventory to Market........................

1,100

 

 

 

            Recovery of Loss Due to Market
               Decline of Inventory...........................................

 


1,100

 

 

 

 

 

 

Apr. 30

Allowance to Reduce Inventory to Market........................

700

 

 

 

            Recovery of Loss Due to Market
               Decline of Inventory...........................................

 


700

EXERCISE 9-6 VIP

 

Net realizable value (ceiling)

$45 – $14 = $31

 

Net realizable value less normal profit (floor)

$31 – $  9 = $22

 

Replacement cost

$35

 

Designated market

$31

Ceiling

Cost

$40

 

Lower of cost or market

$31

 

 

$35 figure used – $31 correct value per unit = $4 per unit.

$4 X 1,000 units = $4,000.

If ending inventory is overstated, net income will be overstated.

If beginning inventory is overstated, net income will be understated.

Therefore, net income for 2004 was overstated by $4,000 and net income for 2005 was understated by $4,000.

 


EXERCISE 9-7

 

Cost Per Lot
(Cost Allocated/
No. of Lots)

$2,100

  2,800

  1,680

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 


Cost Allocated

$18,900

  42,000

  28,560

$89,460

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 


Total
Cost

$89,460

 89,460

 89,460

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 


Relative Sales Price

$27,000/$127,800

$60,000/$127,800

$40,800/$127,800

 

 

$80,000

  56,000

  24,000

  18,200

 $   5,800

 

 

Cost           
Per             Total
Lot            Costs

$2,100    $  8,400

  2,800      22,400

  1,680      25,200

                 $56,000

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 


Total
Selling Price

$   27,000

     60,000

     40,800

$127,800

 

Sales (see schedule)

Cost of goods sold (see schedule)

Gross profit

Operating expenses

  Net income

 

 


Total
Sales

$12,000

  32,000

  36,000

 $80,000

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 


Price Per Lot

$3,000

  4,000

  2,400

 

 

 

 


Unit
Price

$3,000

  4,000

  2,400

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 


No. of Lots

 

  9

15

17

 

 

 

 


Units*
Sold

  4

  8

15

 27

 

*  9 – 5 = 4

 15 – 7 = 8

 17 – 2 = 15

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Group 1

Group 2

Group 3

 

 

 

 

 

Group 1

Group 2

Group 3

  Total

 

 

 

 

 

EXERCISE 9-12

(a)

Inventory, May 1 (at cost)

 

$160,000

 

Purchases (gross) (at cost)

 

  640,000

 

Purchase discounts

 

(12,000)

 

Freight-in

 

    30,000

 

            Goods available (at cost)

 

818,000

 

Sales (at selling price)

$1,000,000

 

 

Sales returns (at selling price)

     (70,000)

 

 

Net sales (at selling price)

930,000

 

 

Less gross profit (30% of $930,000)

     279,000

 

 

            Sales (at cost)

 

  651,000

 

                        Approximate inventory, May 31

 

 

 

                           (at cost)

 

$167,000

(a)       Gross profit as a percent of sales must be computed:

 

30%

= 23.08% of sales.

 

100% + 30%

 

 

Inventory, May 1 (at cost)

 

$160,000

 

Purchases (gross) (at cost)

 

  640,000

 

Purchase discounts

 

(12,000)

 

Freight-in

 

    30,000

 

            Goods available (at cost)

 

818,000

 

Sales (at selling price)

$1,000,000

 

 

Sales returns (at selling price)

     (70,000)

 

 

Net sales (at selling price)

930,000

 

 

Less gross profit (23.08% of $930,000)

     214,644

 

 

            Sales (at cost)

 

  715,356

 

                        Approximate inventory, May 31

 

 

 

                           (at cost)

 

$102,644

*EXERCISE 9-22  VIP

(a)

Conventional Retail Method

 

 

 

 

 

Cost

 

Retail

 

Inventory, January 1, 2003

$  38,100

 

$  60,000

 

Purchases (net)

  130,900

 

  178,000

 

 

  169,000

 

  238,000

 

Add markups (net)

________

 

    22,000

 

 

$169,000

 

  260,000

 

Deduct markdowns (net)

 

 

    13,000

 

Sales price of goods available

 

 

  247,000

 

Deduct sales (net)

 

 

  167,000

 

Ending inventory, at retail

 

 

$  80,000

 

Cost-to-retail ratio =

$169,000

= 65%

 

 

$260,000

 

        Ending inventory at cost = 65% X $80,000 = $52,000

(b)

LIFO Retail Method

 

 

 

 

 

Cost

 

Retail

 

Inventory, January 1, 2003

$  38,100

 

$  60,000

 

Purchases (net)

  130,900

 

  178,000

 

Add markups (net)

 

 

    22,000

 

Deduct markdowns (net)

 

 

    (13,000)

 

Total (excluding beginning inventory)

  130,900

 

  187,000

 

Total (including beginning inventory)

$169,000

 

  247,000

 

Deduct sales (net)

 

 

  167,000

 

Ending inventory, at retail

 

 

$  80,000

 

Cost-to-retail ratio =

$130,900

= 70%

 

 

$187,000

 

 

        Computation of ending inventory at LIFO cost, 2004:

 

Ending Inventory at Retail Prices

 

Layers at Retail Prices

 

Cost to Retail (Percentage)

 

Ending Inventory at LIFO Cost

$80,000

 

2003  $60,000

X

  63.5%*

 

$38,100

 

 

2004    20,000

X

70.0%

 

  14,000

 

 

 

 

 

 

$52,100

 

 

 

 

 

 

 

*$38,100

(prior years cost to retail)

 

 

 

$60,000

 

 

 

 

 

VIP

PROBLEM 9-6

 

 

(a)

 

Cost

 

Retail

 

Inventory (beginning)

$  17,000

 

$  25,000

 

Purchases

86,500

 

137,000

 

Freight-in

7,000

 

 

 

Purchase allowances

(2,200)

 

 

 

Purchase returns

(2,300)

 

(3,000)

 

Transfers-in from suburb branch

      9,200

 

    13,000

 

 

$115,200

 

172,000

 

Markups (net)

 

 

      8,000

 

 

 

 

180,000

 

Markdowns (net)

 

 

(4,000)

 

Inventory losses due to breakage

 

 

(400)

 

Sales

 

$(85,000)

 

 

Sales returns

 

     2,400

 

 

Net sales

 

 

  (82,600)

 

Ending inventory at retail

 

 

$  93,000

 

 

 

 

 

 

Cost-to-retail ratio =

$115,200

= 64%

 

 

$180,000

 

 

 

 

 

 

(b)

Ending inventory at lower of average cost or market

 

 

   (64% of $93,000)

 

 

$  59,520

 

VIP

PROBLEM 9-8

 

 

(a)

 

Cost

 

Retail

 

Inventory (beginning)

$  52,000

 

$  78,000

 

Purchases

262,000

 

423,000

 

Purchase returns

(5,600)

 

(8,000)

 

Freight-in

    16,600

 

_______

 

 

$325,000

 

493,000

 

Markups

 

9,000

 

 

Markup cancellations

 

  (2,000)

     7,000

 

 

 

 

500,000

 

Markdowns (net)

 

 

(3,600)

 

Normal spoilage and breakage

 

 

(10,000)

 

Sales

 

 

 (380,000)

 

Ending inventory at retail

 

 

$106,400

 

 

 

 

 

 

Cost-to-retail ratio =

$325,000

= 65%

 

 

$500,000

 

 

 

 

 

 

 

Ending inventory at lower of cost or market

 

 

   (65% of $106,400)

 

 

$   69,160

 

(b)        The difference between the inventory estimate per retail method and the amount per physical count may be due to:

1.                  Theft losses (shoplifting or pilferage).

2.                  Spoilage or breakage above normal.

3.                  Differences in cost/retail ratio for purchases during the month, beginning inventory, and ending inventory.

4.                  Markups on goods available for sale inconsistent between cost of goods sold and ending inventory.

5.                  A wide variety of merchandise with varying cost/retail ratios.

6.                  Incorrect reporting of markdowns, additional markups, or cancellations.

 

VIP

 

PROBLEM 9-10

 

 

(a)                                                  Schedule A

 




Item

 



On Hand Quantity

 



Replacement Cost/Unit

 



NRV Ceiling

 

NRV— Normal Profit (Floor)

 



Designated Market

 




Cost

 


Lower of Cost or Market

A

 

1,100

 

$8.40

 

$9.00

 

$7.20

 

$8.40

 

$7.50

 

$7.50

B

 

   800

 

  8.00

 

  8.50

 

  7.30

 

  8.00

 

  8.20

 

  8.00

C

 

1,000

 

  5.40

 

  6.10

 

  5.50

 

  5.50

 

  5.60

 

  5.50

D

 

1,000

 

  4.20

 

  5.50

 

  4.00

 

  4.20

 

  3.80

 

  3.80

E

 

1,400

 

  6.30

 

  6.10

 

  5.10

 

  6.10

 

  6.40

 

  6.10

 

Schedule B

 

Item

 

Cost

 

Lower of Cost or Market

 

Difference

A

 

1,100 X $7.50 = $8,250

 

1,100 X $7.50 = $8,250

 

None

B

 

800 X $8.20 = $6,560

 

   800 X $8.00 = $6,400

 

$160

C

 

1,000 X $5.60 = $5,600

 

1,000 X $5.50 = $5,500

 

$100

D

 

1,000 X $3.80 = $3,800

 

1,000 X $3.80 = $3,800

 

None

E

 

1,400 X $6.40 = $8,960

 

1,400 X $6.10 = $8,540

 

$420

 

 

 

 

 

 

$680

 

(b)        Cost of Goods Sold............................................................................

680

 

                    Inventory......................................................................................

 

680

 

 

 

            or

 

 

 

 

 

            Loss Due to Market Decline of Inventory............................................

680

 

                    Allowance to Reduce Inventory to Market...................................

 

680

 

 (c)       To:                   Finn Berg, Clerk

From:              Manager of Accounting

Date:               January 14, 2004

Subject:           Instructions on determining lower of cost or market for inventory valuation

 

This memo responds to your questions regarding our use of lower of cost or market for inventory valuation. Simply put, value inventory at whichever is the lower: the actual cost or the market value of the inventory at the time of valuation.The term cost is relatively simple. It refers to the amount our company paid for our inventory including costs associated with preparing the inventory for sale.

The term market, on the other hand, is more complicated. As you have already noticed, this value could be the inventory’s replacement cost, its net realizable value (selling price minus any estimated costs to complete and sell), or its net realizable value less a normal profit margin. The profession requires that the middle value of the three above costs be chosen as the “designated market value.” This designated market value is then compared to the actual cost in determining the lower of cost or market.

 

Refer to Item A on the attached schedule. The values for the replacement cost, net realizable value, and net realizable value less a normal profit margin are $8.40, $9.00 ($10.50 – $1.50), and $7.20 ($9.00 – $1.80) respectively. The middle value is the replacement cost, $8.40, which becomes the designated market value for Item A. Compare it with the actual cost, $7.50, choosing the lower to value Item A in inventory. In this case, $7.50 is the value chosen to value inventory. Thus, inventory for Item A amounts to $8,250. (See Schedule B, Item A.)

Proceed in the same way, always choosing the middle value among replacement cost, net realizable value, and net realizable value less a normal profit, and compare that middle value to the actual cost. The lower of these will always be the amount at which you value the particular item.
After you have aggregated the total lower of cost or market for all items, you will be likely to have a loss on inventory which must be accounted for. In our example, the loss is $680. You can journalize this loss in one of two ways:

 

Cost of Goods Sold.......................................................................................

680

 

            Inventory.............................................................................................

 

680

or

 

 

Loss Due to Market Decline of Inventory.......................................................

680

 

            Allowance to Reduce Inventory to Market..........................................

 

680

 

This memo should answer your questions about which value to choose when valuing inventory at lower of cost or market.

Schedule A

 




Item

 



On Hand Quantity

 



Replacement Cost/Unit

 



NRV Ceiling

 

NRV—Normal Profit (Floor)

 



Designated Market

 




Cost

 


Lower of Cost or Market

A

 

1,100

 

$8.40

 

$9.00

 

$7.20

 

$8.40

 

$7.50

 

$7.50

B

 

   800

 

  8.00

 

  8.50

 

  7.30

 

  8.00

 

  8.20

 

  8.00

C

 

1,000

 

  5.40

 

  6.10

 

  5.50

 

  5.50

 

  5.60

 

  5.50

D

 

1,000

 

  4.20

 

  5.50

 

  4.00

 

  4.20

 

  3.80

 

  3.80

E

 

1,400

 

  6.30

 

  6.10

 

  5.10

 

  6.10

 

  6.40

 

  6.10

 

Schedule B

Item

 

Cost

 

Lower of Cost or Market

 

Difference

A

 

1,100 X $7.50 = $8,250

 

1,100 X $7.50 = $8,250

 

None

B

 

   800 X $8.20 = $6,560

 

   800 X $8.00 = $6,400

 

$160

C

 

1,000 X $5.60 = $5,600

 

1,000 X $5.50 = $5,500

 

$100

D

 

1,000 X $3.80 = $3,800

 

1,000 X $3.80 = $3,800

 

None

E

 

1,400 X $6.40 = $8,960

 

1,400 X $6.10 = $8,540

 

$420

 

 

*PROBLEM 9-11

 

 

(a)

 

Cost

 

Retail

 

Inventory, January 1

$  30,000

 

$  43,000

 

Purchases

108,800

 

155,000

 

Purchase returns and allowances

    (2,800)

 

    (4,000)

 

            Totals

136,000

 

194,000

 

Add net markups

 

 

 

 

            Markups

 

$   9,200

 

 

            Markup cancellations

_______

   (3,200)

     6,000

 

            Totals

$136,000

 

200,000

 

Deduct net markdowns

 

 

 

 

            Markdowns

 

$  10,500

 

 

            Markdown cancellations

 

    (6,500)

    4,000

 

Sales price of goods available

 

 

196,000

 

Sales

 

$159,000

 

 

Sales returns and allowances

 

    (8,000)

 151,000

 

Ending inventory at retail

 

 

$  45,000

 

 

 

 

 

 

Cost-to-retail ratio =

$136,000

= 68%

 

 

$200,000

 

 

 

 

 

 

 

Inventory at lower of cost or market (68% X $45,000)

$  30,600

(b)

Ending inventory at retail at January 1 price level
   ($54,000
¸ 1.08)


$  50,000

 

Less beginning inventory at retail

    43,000

 

Inventory increment at retail, January 1 price level

$    7,000

 

Inventory increment at retail, June 30 price level
   ($7,000 X 1.08)


$    7,560

 

 

 

 

Beginning inventory at cost

$  30,000

 

Inventory increment at cost at June 30 price level
   ($7,560 X 70%)


      5,292

 

Ending inventory at dollar-value LIFO cost

$  35,292