Dollar-value LIFO
 Who uses? The companies that maintain a large number of products and
expect significant changes in their product mix in future, frequently use dollarvalue LIFO technique. The use of traditional LIFO approaches is common
among companies that have a few items and expect very little change in their
product mix.
 Lose verifiability BUT Reduce cost of measurement. Under this method, it is
possible to use a single pool. However, companies can use any number of
pools according to their requirement. The unnecessary employment of a large
number of dollar-value LIFO pools may increase the cost and also reduce the
effectiveness of dollar-value LIFO approach.
 Dollar-value LIFO method is used to alleviate LIFO liquidation problems.
Under this method, goods are combined into pools and all increases and
decreases in a pool are measured in terms of total dollar value. The pools
created under this method are, therefore, known as dollar-value LIFO pools.
The Example Company adopted dollar-value LIFO method on
December 31, 2011. The inventory on current prices at the end of
2011 and 2012 was as follows:
The inventory prices were increased by 25% during the year
2012.
December 31, 2011
(End of year prices)
December 31, 2012
(End of year prices)
$40,000
$52,800
Required: Compute the amount of inventory at the end of 2012
using dollar-value LIFO method.
1. Compute the value of ending inventory at base-year-prices. It is
computed using the following formula:
Ending inventory at base-year-prices = $52,800/1.25
= $42,240
2. Compute the real-dollar quantity increase in inventory:
= ($42,240 – $40,000)
= $2,240
Beginning inventory (first layer) in
terms of 100
$40,000
Increase during 2012 (second layer)
in terms of 125
$2,800
Dollar value LIFO inventory on
3. Value this real dollar quantity increase in inventory at year-end-prices:
December 31, 2012
= $2,240 × 1.25
= $2,800
The real dollar quantity increase in inventory valued at year-end-prices is
usually known as dollar-value LIFO layer (or layer). If this layer is added to
the beginning inventory of the year 2012, we would get the total inventory
at the end of the year 2012.
———
42,800
———
P1.4. Adopted dollar-value LIFO 1.1.2014 (using internal price indexes and multiple
pools). The following data available for inventory pool A for the two years following the
adoption of LIFO. Compute the internal price index and using dollar-value LIFO method,
at what amount should the inventory be reported at 12.31.2015?
Inventory
At Base-Year
Cost
At Current Year
Cost
1.1.14
$200,000
$200,000
12.31.14
$240,000
$264,000
12.31.15
$256,000
$286,720
Beginning inventory (first layer) in terms of 100
Increase during 2014 in terms of 12.31.14 Index
Dollar value LIFO inventory on December 31, 2014
Beginning inventory (first layer) in terms of 100
2014 layer
Increase during 2015 in terms of 12.31.15 Index
Dollar value LIFO inventory on December 31, 2015
Price Index %
The following information belongs to Example 2 Company:
Required: Compute the inventory at the end of each year using
dollar-value LIFO method.
1. Add two new columns to the original information given; one to
show the inventory at base-year-prices and one to show the changes
in inventory from prior year.
2.Compute the dollar value inventory:
Inventory at
end-of-year
prices
Price index
(percentage)
December 31, 2009
$400,000
100
December 31, 2010
$598,000
115
December 31, 2011
$600,000
120
December 31, 2012
$702,000
130
Date
December 31, 2009:
$400,000 @ 1.00
=
$400,000
————-
Date
Inventory at Price Inventory at Change
end-of-year index base-year- from prior
prices
(%)
prices
year
December 31, 2009
$400,000
100
$400,000
0
December 31, 2010
$598,000
115
$520,000
120,000
December 31, 2011
$600,000
120
$500,000
(20,000)
December 31, 2012
$702,000
130
$540,000
40,000
* The price index of 2010 has been used because no layer has been
formed during the year 2011. The ending inventory at base-yearprices ($500,000) is less than the beginning inventory at base-yearprices ($520,000).
Hint!
A layer is formed only when ending inventory at base-yearprices exceeds the beginning inventory at base-year-prices.
December 31, 2010:
$400,000 @ 1.00
=
$400,000
$120,000 @ 1.15
=
$138,000
————$538,000
————-
December 31, 2011:
$400,000 @ 1.00
=
$400,000
$100,000 @ 1.15*
=
$115,000
————$515,000
————-
December 31, 2012:
$400,000 @ 1.00
=
$400,000
$100,000 @ 1.15
=
$115,000
$40,000 @ 1.30
=
$52,000
————$567,000
————-
Dollar-value LIFO
 Periodic
• Determine ending inventory (EI)
• Use EI to determine COGS
 Ending Inventory
• Need ‘units’
 Inventory in base-year dollars
• Need ‘cost’ per ‘unit’
 Price index
P8-8 (Dollar-Value LIFO) Norman’s Televisions produces television sets in three categories: portable, midsize,
and flat screen. On January 1, 2014, Norman adopted dollar-value LIFO and decided to use a single inventory
pool. The company’s January 1 inventory consists of:
Category
Quantity
Cost per Unit Total Cost
Portable
6,000
$100
$ 600,000
Midsize
8,000
250
2,000,000
Flat screen
3,000
400
1,200,000
17,000
$3,800,000
During 2014, the company had the following purchases and sales:
Category No. Purchased Cost per Unit
No. Sold
Sales Price/Unit
Portable
15,000
$110
14,000
$150
Midsized
20,000
300
24,000
405
Flat screen
10,000
500
6,000
600
45,000
44,000
(b) Assume the company uses three inventory pools instead of one. Compute ending inventory, cost of goods sold,
and gross profit.
P8-8 (Dollar-Value LIFO) Norman’s Televisions produces television sets in three categories: portable, midsize,
and flat screen. On January 1, 2014, Norman adopted dollar-value LIFO and decided to use a single inventory
pool. The company’s January 1 inventory consists of:
Category
Quantity
Cost per Unit Total Cost
Portable
6,000
$100
$ 600,000
Midsize
8,000
250
2,000,000
Flat screen
3,000
400
1,200,000
17,000
$3,800,000
During 2014, the company had the following purchases and sales:
Category No. Purchased Cost per Unit
No. Sold
Sales Price/Unit
Portable
15,000
$110
14,000
$150
Midsized
20,000
300
24,000
405
Flat screen
10,000
500
6,000
600
45,000
44,000
(a) Compute ending inventory, cost of goods sold, and gross profit.
P8-8 (Dollar-Value LIFO) Norman’s Televisions produces television sets in three categories: portable, midsize,
and flat screen. On January 1, 2014, Norman adopted dollar-value LIFO and decided to use a single inventory
pool. The company’s January 1 inventory consists of:
Category
Quantity
Cost per Unit Total Cost
Portable
6,000
$100
$ 600,000
Midsize
8,000
250
2,000,000
Flat screen
3,000
400
1,200,000
17,000
$3,800,000
During 2014, the company had the following purchases and sales:
Category No. Purchased Cost per Unit
No. Sold
Sales Price/Unit
Portable
15,000
$110
14,000
$150
Midsized
20,000
300
24,000
405
Flat screen
10,000
500
6,000
600
45,000
44,000
(a) Compute ending inventory, cost of goods sold, and gross profit.
Objectives
Chapter 9
•
You should be able to
– Explain and apply the lower of cost or market rule to inventories
under both US GAAP and IFRS (choosing the designated market
value)
– Explain when and how to use an inventory valuation account
– Explain when and how to account for purchase commitments
Lower of Cost or Market
 Matching
 Conservatism
Lower of Cost or Market – US GAAP vs. IFRS
Ceiling
NRV
Not
More
Than
Cost
Market
Replacement Cost
Not
Less
Than
GAAP
Lower of Cost
or Market
NRV less Normal
Profit Margin
Floor
Ending Inventory: Applying the Lower-of-Cost-or-Market Rule
•
•
U.S. GAAP says that inventory, like most assets, should be carried at original
cost (aka historical cost). For inventory, under the conservatism principle, a
departure is appropriate if the replacement cost is less than the historical cost.
So if inventory can be replaced for less than its original cost, then the
difference between the original and replacement cost should be recognized as a
loss.
Applying the lower-of-cost-or-market rule to ending inventory is accomplished
by comparing the cost allocated to ending inventory with the market
(replacement) value of the inventory. If the market value exceeds the cost, no
adjustment is made and the inventory remains at cost. If the market value is
less than the cost, the inventories are written down to market value with an
adjusting journal entry. The typical entry is:
Dr. Cost of goods sold (or Loss on inventory write down) XX
Cr.
Inventory
XX
E9-1 (Lower of Cost or Market) The inventory of Company on December 31, 2014,
consists of the following items.
Part No.
Quantity
Cost per Unit
Cost to Replace per
Unit
LCOM
110
600
$90
$100
111
1,000
60
52
112
500
80
76
113
200
170
180
120
400
205
208
121*
1,600
16
14
122
300
240
235
* Part No. 121 is obsolete and has a NRV of $.20 each as scrap.
a)
LOCM inventory at 12/31/14, applying LOCM to each item.
Lower of Cost or Market – E 9-1b.
Part No.
Quantity
Cost/ Unit
Total Cost
Cost to Replace
per Unit
110
600
$90
$100
111
1,000
60
52
112
500
80
76
113
200
170
180
120
400
205
208
121*
1,600
16
14
122
300
240
235
Total Market
Total
* Part No. 121 is obsolete and has a NRV of $.20 each as scrap.
b) LOCM inventory at 12/31/14, applying LOCM to the total of the inventory.
E9-6: Company uses LOCM for its inventory on an individual-item basis. Inventory at 12/31/13 includes
product X, for which per-unit data is:
Estimated selling price
$45
Cost
40
Replacement Cost
35
Estimated selling expense
14
Normal profit
9
There are 1000 units of product X, and it was incorrectly valued at $35 per unit. All 1000 units were sold
in 2014. What was the effect of this error on 2013 and 2014 net income?
P9-10 Lower of Cost or Market
a)
Item
Calculate the LCOM using the individual item approach.
Quantity
Unit
Cost
Replacement
cost/unit
Est. Selling
Price/unit
Completion
& Disposal
cost/unit
Normal
Profit
Margin/unit
A
1,100
$7.50
$8.40
$10.50
$1.50
$1.80
B
800
8.20
7.90
9.40
.90
1.20
C
1,000
5.60
5.40
7.20
1.15
.60
D
1,000
3.80
4.20
6.30
.80
1.50
E
1,400
6.40
6.30
6.70
.70
1.00
Item
Quantity
Replace
ment
cost/uni
t
NRV (Ceiling)
NRV- Normal
Profit (Floor)
Designated
Market
Cost
LCOM
A
1,100
$8.40
$7.50
B
800
7.90
8.20
C
1,000
5.40
5.60
D
1,000
4.20
3.80
E
1,400
6.30
6.40
Item
Quantity
Cost
Total Cost
A
1,100
$7.50
B
800
8.20
C
1,000
5.60
D
1,000
3.80
E
1,400
6.40
Total LOCM
b) JE to write down ending inventory from cost to market.
Difference
The Lower-of-Cost-or-Market Rule
and Hidden Reserves
• Based on conservatism, ending inventory is valued
at cost or market value, whichever is lower.
• Problem: can create hidden reserves
– Recognizes price decreases immediately
– Defers price increase recognition until sold
• US GAAP and IFRS use different market values
when applying the lower-of-cost-or-market rule.
Under US GAAP the market value is usually the
replacement cost. Under IFRS it is normally the
realizable value.
E9-9 (Purchase Commitments) Co. has been having difficulty obtaining key raw
materials for its manufacturing process. The company therefore signed a long-term
noncancelable purchase commitment with its largest supplier of this raw material on
11/30/2014, at an agreed price of $400,000. At 12/31/2014, the raw material had
declined in price to $365,000.
JE at 12/31/2014: