9RQ

Question

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

Step-by-Step Solution

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Answer

The historical cost and market cost (or net realizable cost) are the two parameters that are required under the LCM approach.

1IFRS standard regarding inventory reporting

As per IFRS guidelines, the inventory must be reported at the lower of cost or market value. This is based on the principle of conservatism which states that the reporting value must be realistic.

2Requirement for LCM rule

The LCM approach takes two values in consideration for determining the cost o inventory –

a) Historical cost

b) Market value or net realizable cost

This approach is logical in the sense that if the replacement cost (market value) is less than the historical cost then the company would always show a profit during a lower market price. So it is necessary to adjust the inventory value based on the market price.

Thus LCM approach is suitable for valuing the inventory cost in any market condition.

8RQ

10RQ

Other exercises in this chapter

7RQ

When using a perpetual inventory system and the weighted-average inventory costing method, when does the business compute a new weighted-average cost per unit?

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8RQ

During periods of rising costs, which inventory costing method produces the highest gross profit?

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10RQ

What account is debited when recording the adjusting entry to write down merchandise inventory under the LCM rule?

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11RQ

What is the effect on the cost of goods sold, gross profit, and net income if ending merchandise inventory is understated?

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