Question

Lower of Cost or Market

Stiles Corporation uses the lower of cost or market rule for each of two products in its ending inventory. A profit margin of 30% on the selling price is considered normal for each product. Specific data for each product are as follows:

	Product A	Product B
Historical cost	$80	$96
Replacement cost	70	98
Estimated cost of disposal	32	30
Estimated selling price	150	120

Required:Assume that Stiles uses the FIFO inventory method. What is the correct inventory value for each product?

Product A	$   per unit
Product B	$   per unit

Assume that Stiles uses the LIFO inventory method. What is the correct inventory value for each product?

Product A	$   per unit
Product B	$   per unit

For Product A, the use of a “ ” constraint prevents an excessive write-down of inventory. If the constraint were not imposed, an excessive loss would be recognized in the period of the write-down followed by an excessive profit in future periods. Therefore, the imposition of the constraint prevents the profit distortion that would occur by an understatement of inventory and overstatement of losses in the current period.

For Product B, the use of a " " constraint prevents inventory from being valued at an amount that exceeds the amount the company could realize by seliling it.

Answer 1

Part 1)

The inventory value for each product with FIFO cost flow assumption is calculated as below:

Product	NRV (Selling Price - Estimated Cost of Disposal)	Market Value (Selling Price - Estimated Cost of Disposal)	Cost	Inventory Value (Lower of Cost or Market)
A	118	118	80	$80
B	90	90	96	$90

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Part 2)

The inventory value for each product with LIFO cost flow assumption is determined as below:

Product	NRV (Selling Price - Estimated Cost of Disposal)	Replacement Cost	NRV-Normal Profit	Market Value (Mid Value of NRV, Replacement Cost and NRV - Normal Profit Margin)	Cost	Inventory Value
A	118	70	73 (118 - 30%*150)	73	80	$73
B	90	98	54 (90 - 30%*120)	90	96	$90

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Part 3)

Imposition of constraints on market value results in loss of inventory value of Product A by $7 (80 - 73) and $6 for Product B (96 - 90).