1. Chapter 9: Inventories – Additional Valuation Issues
Intermediate Accounting, 10th Edition
Kieso, Weygandt, and Warfield
Chapter 9: Inventories – Additional Valuation Issues
Prepared by
Krishnan Ranganathan, Angelo State University,
San Angelo, Texas

2. Part 1: Valuation of Inventories
Lower of Cost or Market
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Intermediate Accounting, 10th Edition, Ch. 9 (Kieso et al.)

3. Intermediate Accounting, 10th Edition, Ch. 9 (Kieso et al.)
Lower of Cost or Market
The lower of cost or market is an exception to the historical cost principle.
When the future potential of the asset is less than its original cost:
restate asset at cost to replace (market)
The loss must be charged against revenues of the period
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Intermediate Accounting, 10th Edition, Ch. 9 (Kieso et al.)

4. Lower of Cost or Market: Ceiling and Floor
The lower of cost or market rule:
Market value is the replacement cost.
The replacement cost must lie between a ceiling amount and a floor amount.
The ceiling is the net realizable value (selling price less disposal cost)
The floor is net realizable value less a normal profit margin.
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Intermediate Accounting, 10th Edition, Ch. 9 (Kieso et al.)

5. Lower of Cost or Market: Ceiling and Floor - Example
Item Replacement Historical Ceiling Floor Final
Cost Cost Inv $
A $88,000 $80, $120, $104, $80,000
B $88,000 $90, $100, $70, $88,000
C $88,000 $90, $100, $90, $90,000
D $88,000 $90, $87, $70, $87,000
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Intermediate Accounting, 10th Edition, Ch. 9 (Kieso et al.)

6. Intermediate Accounting, 10th Edition, Ch. 9 (Kieso et al.)
Lower of Cost or Market
The lower of cost or market may be applied:
either directly to each item,
to each category, or
to the total of the inventory
Whichever method is selected, it should be consistently applied.
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Intermediate Accounting, 10th Edition, Ch. 9 (Kieso et al.)

7. Recording the decline in Market
Under the direct method:
the inventory is recorded at market.
Under the Indirect (Allowance) method:
declines and recoveries are recorded through an Allowance (Valuation) account
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Intermediate Accounting, 10th Edition, Ch. 9 (Kieso et al.)

8. Recording the decline in Market: Example
Date Inventory Inventory Required Adjust Effect
12/31 at Cost at Market Valuation Valuation
2000 $188,000 $176, $12, $12,000 inc loss
2001 $194,000 $187, $ 7, $ 5,000 dec. gain
2002 $173,000 $174, $ 0 $ 7,000 dec gain
Note: Recovery is permitted only up to cost.
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Intermediate Accounting, 10th Edition, Ch. 9 (Kieso et al.)

9. Intermediate Accounting, 10th Edition, Ch. 9 (Kieso et al.)
Part 2: Valuation Bases
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Intermediate Accounting, 10th Edition, Ch. 9 (Kieso et al.)

10. Valuation Basis: Relative Sales Values
Relative sales values are an appropriate basis, when basket purchases are made.
Basket purchases involve a group of varying units.
The purchase price is paid as a lump sum amount.
The lump sum price is allocated to units on the basis of their relative sales values.
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Intermediate Accounting, 10th Edition, Ch. 9 (Kieso et al.)

11. Relative Sales Values - Example
Intell Company buys three different lots (A, B and C) in a basket purchase, paying $300,000.
The lots were sold as follows: A ($75,000); B ($150,000) and C ($200,000) for a total of $425,000.
Determine the allocated cost to A, B and C and the gross profit for each lot.
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Intermediate Accounting, 10th Edition, Ch. 9 (Kieso et al.)

12. Relative Sales Values - Example
Lot Sales Allocated Gross
Value Cost Profit
A $75,000 ($75,000/$425,000)
* $ 300,000
= $ 52,941 $ 22,059
B $150,000 $105,882 $ 44,118
C $200,000 $ 141,176 $ 58,824
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Intermediate Accounting, 10th Edition, Ch. 9 (Kieso et al.)

13. The Gross Profit Method
Part 3: Estimating
Ending Inventory -
The Gross Profit Method
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Intermediate Accounting, 10th Edition, Ch. 9 (Kieso et al.)

14. Intermediate Accounting, 10th Edition, Ch. 9 (Kieso et al.)
Gross Profit Method
The gross profit method is used to estimate ending inventory.
This method is used also when an estimate is needed due to a fire loss.
The method is based on the assumptions that:
beginning inventory + net purchases = goods available for sale
goods available - sales (at cost) = ending inventory
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Intermediate Accounting, 10th Edition, Ch. 9 (Kieso et al.)

15. Gross Profit method: example
Given:
Beginning inventory ( ): $ 50,000
Net Purchases (through Mar 2) : $ 125,000
Sales (net) through Mar 2: $ 112,000
Gross Profit percentage on sales 40%
Estimate the ending inventory at Mar 2, 2000.
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Intermediate Accounting, 10th Edition, Ch. 9 (Kieso et al.)

16. Gross Profit method: example
Beg. Inv + Net Purchases Cost of = Est.end.inv
Goods sold
Cost of goods sold = Sales * ( )
$50,000 + $125, ($112,000*0.6) = end. Inv
$50,000 + $125, ($67,200) = $107,800
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Intermediate Accounting, 10th Edition, Ch. 9 (Kieso et al.)

17. Understanding markups
Given: gross profit is 35% of sales. Sales are $10,000. 1
Cost of goods sold = Sales * ( ) = $6,500
Gross Profit = Sales * (0.35) = $3,500
Given: gross profit is 35% of cost Sales are $10,000. 2
Cost + gross profit = Sales ==> 100% + 35% = 135%.
Cost of goods sold = Sales * (100/135) = $7,408
Gross Profit = Sales * (35/135) = $2,592
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Intermediate Accounting, 10th Edition, Ch. 9 (Kieso et al.)

18. Part 4: Retail Inventory Method
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Intermediate Accounting, 10th Edition, Ch. 9 (Kieso et al.)

19. Retail Inventory Method
Is appropriate for retail concerns
with high volume sales and
different types of merchandise.
The method assumes an observable pattern between cost and prices.
The steps are:
determine ending inventory at retail prices
convert this amount to a cost basis.
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Intermediate Accounting, 10th Edition, Ch. 9 (Kieso et al.)

20. Retail Inventory Method: Example
Given for the year 2000:
at cost at retail
Beginning inventory $ 2,000 $ 3,000
Purchases (Net) $10,000 $15,000
Sales (Net) $12,000
Determine:
ending inventory, at retail and at cost.
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Intermediate Accounting, 10th Edition, Ch. 9 (Kieso et al.)

21. Retail Inventory Method: Example
at cost at retail
Beginning inventory $ 2,000 $ 3,000
Purchases (Net) $10,000 $15,000
Goods available for sale $12,000 $18,000
less: Sales (Net) ($12,000)
Ending inventory (at retail) $6,000
Times: cost to retail ratio 2/3
Ending inventory at cost $4,000
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Intermediate Accounting, 10th Edition, Ch. 9 (Kieso et al.)

22. Markups, Markdowns and Cancellations
Given:
at cost at retail
Goods available $20,500 $36,000
Markups $ 3,000
Markup cancellations $ 1,000
Markdowns $ 2,500
Markdown cancellations $ 2,000
Compute the cost-to-retail ratio.
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Intermediate Accounting, 10th Edition, Ch. 9 (Kieso et al.)

23. Markups, Markdowns and Cancellations
at cost at retail
Goods available $20,500 $36,000
Markups $ 3,000
Markup cancellations ($ 1,000)
Goods available (adj) $20,500 $ 38,000
Cost-to-retail ratio ($20,500/ $38,000) = 53.9%
Ignore markdowns and markdown cancellations
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Intermediate Accounting, 10th Edition, Ch. 9 (Kieso et al.)

24. Intermediate Accounting, 10th Edition, Ch. 9 (Kieso et al.)
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11/24/2018
Intermediate Accounting, 10th Edition, Ch. 9 (Kieso et al.)