Question

What does the lower-of-cost-or-market (LCM) rule require?

Answer 1

Generally the inventories of the company are recorded at its historical cost, i.e the purchase price.

But there are circumstances when the utility or value of inventories decreases and the market value or the replacement cost of inventory falls down.

So, the LCM rule requires the inventory to be booked at cost or market value whichever is less.

For Example,

• If the Inventory booked at cost of $100 and subsequently the market price of it falls to $90, then
• A loss of $10 will be booked and the inventory will be valued at market price of $90
• for the same example if the market price would have gone up lets say $110, then no adjustments would have been made because the cost price would have been less in this case.