Q 21E-1 - Horngren'S Financial And Managerial Accounting

Question

Clarmont Resources, which uses the FIFO inventory costing method, has the following account balances at May 31, 2019, prior to releasing the financial statements for the year:

Merchandise Inventory, ending                             \( 13,500

Cost of Goods Sold                                                    68,000

Net Sales Revenue                                                   123,000

 

Clarmont has determined that the current replacement cost (current market value) of the May 31, 2019, ending merchandise inventory is \)12,400.

 

Requirements

1. Prepare any adjusting journal entry required from the information given.

Step-by-Step Solution

Answer

The adjusting entry would be made for $1,100 against the cost of goods sold for losing the value.

Step-by-Step-Solution Step 1: Lower of cost or market value rule

The cost of inventory is determined by following the lower of cost or market value rule. As per this rule, the inventory should always be valued at the lower price of the original cost or at the market value whichever is lower. This rule is followed due to the principle of conservatism.

 

In the given case,

The value of ending inventory at original cost: $13,500

The value of ending inventory at market value: $12,400

 

So as per the LCM rule, the ending inventory would be reported at $12,400.

Step 2: Journal Entry for adjustment

 For reporting the ending inventory at $12,400, the following adjustment entry would be made or the difference amount between the original cost and market value–

  $$\begin{gathered} \mathit{D}\mathit{i}\mathit{f}\mathit{f}\mathit{r}\mathit{e}\mathit{n}\mathit{c}\mathit{e}\mathit{A}\mathit{m}\mathit{o}\mathit{u}\mathit{n}\mathit{t}\mathbf{=}\mathit{O}\mathit{r}\mathit{i}\mathit{g}\mathit{i}\mathit{n}\mathit{a}\mathit{l}\mathit{c}\mathit{o}\mathit{s}\mathit{t}\mathbf{-}\mathit{M}\mathit{a}\mathit{r}\mathit{k}\mathit{e}\mathit{t}\mathit{V}\mathit{a}\mathit{l}\mathit{u}\mathit{e} \\ \mathbf{=}\mathbf{\$}\mathbf{13}\mathbf{,}\mathbf{500}\mathbf{-}\mathbf{\$}\mathbf{12}\mathbf{,}\mathbf{400} \\ \mathbf{=}\mathbf{\$}\mathbf{1}\mathbf{,}\mathbf{100} \end{gathered}$$

	Journal entry
Date	Description	Debit	Credit
May 31	Cost of goods sold	$1,100
	Merchandise Inventory		$1,100
	Being inventory adjusted at market value