Question

Instructions: Answer the following questions. Each answer or conclusion must be supported by appropriate references to the FASB Codification, by using correctly formatted citations. Do NOT copy and paste the codification sections. Writing counts. Your work must be organized and logical, using properly structured paragraphs and sentences, correct grammar and without spelling errors. It is important to consider who is your audience.

1. On October 1, 2018, DAW Inc. signed a long-term, non-cancellable purchase commitment with a major supplier to purchase raw materials needed for production of the company’s product during 2019 for $1,000,000. On December 31, 2018, the last day of the fiscal year, the raw materials to be purchased had a market value of $950,000. As the outsider auditor, explain to your client what, if any, GAAP would apply to the status of the purchase commitment. What would be your recommendation for reporting the purchase commitment at year end?

2. Your client’s competitor recently introduced a new, more efficient and less expensive product compared to one of your client’s very similar product. Prior to this introduction, sales of the client’s product had met revenue and quantity of sale forecasts. Since the introduction by the competitor, sales (at the historical selling price) have slowed and inventory is beginning to build. Your client uses the FIFO cost flow assumption. Explain to your client what GAAP requires for the measurement of inventory at the end of the reporting period. In this particular case, what will your client need to consider?

Answer 1

1. when the purchase agreement is signed and that is even not revocacble this does not have any accoutning effect. This is just an agreement and does not need any accounting effect.

we can make accrual for the future cost that has to be paid at the time of goods are delievered but at this time we can shown this as acrued cost and reverse the accrual once the goods are delivered.

2.As per GAAP the closing inventory has to be measured at the rate that is less amongst the market value or the cost at which that is purchased.

if the FIFO cost is $10 and the market value is $5 than the closing inventory units has to be recorded at the rate of $5 only.

if we record this at $10 now then the inventory will release only $5 in the coming year and will give huge loss. so this should be recorded at the lower cost only as per GAAP.