Q35PGB_4 - Horngren'S Financial And Managerial Accounting

Question

Some of L and K Electronics’s merchandise is gathering dust. It is now December 31, 2018, and the current replacement cost of the ending merchandise inventory is\(32,000 below the business’s cost of the goods, which was \)98,000. Before any adjustmentsat the end of the period, the company’s Cost of Goods Sold account has a balanceof $410,000.

 

Requirements

4. Which accounting principle or concept is most relevant to this situation?

Step-by-Step Solution

Answer

The principle of conservatism has been used in this case.

Step1: Accounting principles in inventory standard

In inventory accounting, four principles or concepts must be followed. These are –

a) Consistency principle

b) Disclosure principle

c) Materiality concept

d) Conservatism

These principles govern inventory accounting and standards.

Step 2: Accounting principle in the given case

In the given case, the principle of conservatism has been used. Per this principle, reporting of figures should be relevant and be at the reduced value and not on overstated value.

The inventory’s market value has been lowered by a significant amount and become lower than the historical cost. In this situation, there would be a loss for every sale because the cost would be higher than the market value. So, per the conservatism principle, this loss must be recognized by COGS, and the ending inventory would be reported at a lower of cost and net realizable value.