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