1. To Determine Lower of Cost or Market First, Determine “Market”: Identify Replacement Cost of the Item This is the amount you would pay to replace the item Identify the Net Realizable Value of the Item This is the amount you could reasonably sell the item for in course of business, minus completion and sales costs. Compute Net Realizable Value minus normal profit margin This is a floor that is computed to prevent understatement of inventory. “Market” is the middle of these three values.

2. To Determine Lower of Cost or Market Next, Determine New Inventory Value: Compare “market” to historical cost value Select the lower value of these two This can be done at the individual item level, the inventory category level, or at the total inventory level.

3. Lower of Cost or Market Example Paterno Motors has the following in inventory: 1 Ford Explorer 1 Toyota Forerunner 1 Dodge Caravan 1 4x4 tire 1 4x4 foglight kit They also have a 20% normal profit margin above historical cost.

4. Item-by-Item Method ItemHistorical Cost Replace- ment Cost Net Realizable Value NRV - (.20 x HC) “Floor” “Market” Value Final Inventory Value Vehicle Inventory Explorer 22,00020,50019,50015,100 Forerunner 21,00021,75027,50023,300 Caravan 14,00011,25014,25011,450 Vehicle Total Supplies Inventory Tire 50659080 Foglight 80455539 Supplies Total Totals Assume these numbers are already known.These must be computed.

5. ItemHistorical Cost Replace- ment Cost Net Realizable Value NRV - (.20 x HC) “Floor” “Market” Value Final Inventory Value Vehicle Inventory Explorer 22,00020,50019,50015,10019,500 Forerunner 21,00021,75027,50023,300 Caravan 14,00011,25014,25011,450 Vehicle Total Supplies Inventory Tire 50659080 Foglight 80455539 Supplies Total Totals Item-by-Item Method First, determine “market” by taking middle value.

6. ItemHistorical Cost Replace- ment Cost Net Realizable Value NRV - (.20 x HC) “Floor” “Market” Value Final Inventory Value Vehicle Inventory Explorer 22,00020,50019,50015,10019,500 Forerunner 21,00021,75027,50023,300 Caravan 14,00011,25014,25011,450 Vehicle Total Supplies Inventory Tire 50659080 Foglight 80455539 Supplies Total Totals Item-by-Item Method Next, choose lower of historical cost or “market.”

7. ItemHistorical Cost Replace- ment Cost Net Realizable Value NRV - (.20 x HC) “Floor” “Market” Value Final Inventory Value Vehicle Inventory Explorer 22,00020,50019,50015,10019,500 Forerunner 21,00021,75027,50023,300 Caravan 14,00011,25014,25011,450 Vehicle Total Supplies Inventory Tire 50659080 Foglight 80455539 Supplies Total Totals Item-by-Item Method Do the same procedures, Item-by-Item.

8. ItemHistorical Cost Replace- ment Cost Net Realizable Value NRV - (.20 x HC) “Floor” “Market” Value Final Inventory Value Vehicle Inventory Explorer 22,00020,50019,50015,10019,500 Forerunner 21,00021,75027,50023,300 21,000 Caravan 14,00011,25014,25011,450 Vehicle Total Supplies Inventory Tire 50659080 Foglight 80455539 Supplies Total Totals Item-by-Item Method

9. ItemHistorical Cost Replace- ment Cost Net Realizable Value NRV - (.20 x HC) “Floor” “Market” Value Final Inventory Value Vehicle Inventory Explorer 22,00020,50019,50015,10019,500 Forerunner 21,00021,75027,50023,300 21,000 Caravan 14,00011,25014,25011,450 Vehicle Total Supplies Inventory Tire 50659080 Foglight 80455539 Supplies Total Totals Item-by-Item Method

10. ItemHistorical Cost Replace- ment Cost Net Realizable Value NRV - (.20 x HC) “Floor” “Market” Value Final Inventory Value Vehicle Inventory Explorer 22,00020,50019,50015,10019,500 Forerunner 21,00021,75027,50023,300 21,000 Caravan 14,00011,25014,25011,450 Vehicle Total Supplies Inventory Tire 50659080 Foglight 80455539 Supplies Total Totals Item-by-Item Method

11. ItemHistorical Cost Replace- ment Cost Net Realizable Value NRV - (.20 x HC) “Floor” “Market” Value Final Inventory Value Vehicle Inventory Explorer 22,00020,50019,50015,10019,500 Forerunner 21,00021,75027,50023,300 21,000 Caravan 14,00011,25014,25011,450 Vehicle Total 51,950 Supplies Inventory Tire 50659080 Foglight 80455539 Supplies Total Totals Item-by-Item Method

12. ItemHistorical Cost Replace- ment Cost Net Realizable Value NRV - (.20 x HC) “Floor” “Market” Value Final Inventory Value Vehicle Inventory Explorer 22,00020,50019,50015,10019,500 Forerunner 21,00021,75027,50023,300 21,000 Caravan 14,00011,25014,25011,450 Vehicle Total 51,950 Supplies Inventory Tire 50659080 50 Foglight 80455539 Supplies Total Totals Item-by-Item Method

13. ItemHistorical Cost Replace- ment Cost Net Realizable Value NRV - (.20 x HC) “Floor” “Market” Value Final Inventory Value Vehicle Inventory Explorer 22,00020,50019,50015,10019,500 Forerunner 21,00021,75027,50023,300 21,000 Caravan 14,00011,25014,25011,450 Vehicle Total 51,950 Supplies Inventory Tire 50659080 50 Foglight 8045553945 Supplies Total Totals Item-by-Item Method

14. ItemHistorical Cost Replace- ment Cost Net Realizable Value NRV - (.20 x HC) “Floor” “Market” Value Final Inventory Value Vehicle Inventory Explorer 22,00020,50019,50015,10019,500 Forerunner 21,00021,75027,50023,300 21,000 Caravan 14,00011,25014,25011,450 Vehicle Total 51,950 Supplies Inventory Tire 50659080 50 Foglight 8045553945 Supplies Total Totals Item-by-Item Method

15. ItemHistorical Cost Replace- ment Cost Net Realizable Value NRV - (.20 x HC) “Floor” “Market” Value Final Inventory Value Vehicle Inventory Explorer 22,00020,50019,50015,10019,500 Forerunner 21,00021,75027,50023,300 21,000 Caravan 14,00011,25014,25011,450 Vehicle Total 51,950 Supplies Inventory Tire 50659080 50 Foglight 8045553945 Supplies Total 95 Totals 52,045

16. Category Method ItemHistorical Cost Replace- ment Cost Net Realizable Value NRV - (.20 x HC) “Floor” “Market” Value Final Inventory Value Vehicle Inventory Explorer 22,00020,50019,50015,100 Forerunner 21,00021,75027,50023,300 Caravan 14,00011,25014,25011,450 Vehicle Total 57,00053,50061,25049,85053,500 Supplies Inventory Tire 50659080 Foglight 80455539 Supplies Total Totals Total up each column within Category. Then apply the same method.

17. Category Method ItemHistorical Cost Replace- ment Cost Net Realizable Value NRV - (.20 x HC) “Floor” “Market” Value Final Inventory Value Vehicle Inventory Explorer 22,00020,50019,50015,100 Forerunner 21,00021,75027,50023,300 Caravan 14,00011,25014,25011,450 Vehicle Total 57,00053,50061,25049,85053,500 Supplies Inventory Tire 50659080 Foglight 80455539 Supplies Total Totals

18. Category Method ItemHistorical Cost Replace- ment Cost Net Realizable Value NRV - (.20 x HC) “Floor” “Market” Value Final Inventory Value Vehicle Inventory Explorer 22,00020,50019,50015,100 Forerunner 21,00021,75027,50023,300 Caravan 14,00011,25014,25011,450 Vehicle Total 57,00053,50061,25049,85053,500 Supplies Inventory Tire 50659080 Foglight 80455539 Supplies Total 130110145119 Totals

19. Category Method ItemHistorical Cost Replace- ment Cost Net Realizable Value NRV - (.20 x HC) “Floor” “Market” Value Final Inventory Value Vehicle Inventory Explorer 22,00020,50019,50015,100 Forerunner 21,00021,75027,50023,300 Caravan 14,00011,25014,25011,450 Vehicle Total 57,00053,50061,25049,85053,500 Supplies Inventory Tire 50659080 Foglight 80455539 Supplies Total 130110145119 Totals

20. ItemHistorical Cost Replace- ment Cost Net Realizable Value NRV - (.20 x HC) “Floor” “Market” Value Final Inventory Value Vehicle Inventory Explorer 22,00020,50019,50015,100 Forerunner 21,00021,75027,50023,300 Caravan 14,00011,25014,25011,450 Vehicle Total 57,00053,50061,25049,85053,500 Supplies Inventory Tire 50659080 Foglight 80455539 Supplies Total 130110145119 Totals 53,619 Category Method

21. Total Inventory Method ItemHistorical Cost Replace- ment Cost Net Realizable Value NRV - (.20 x HC) “Floor” “Market” Value Final Inventory Value Vehicle Inventory Explorer 22,00020,50019,50015,100 Forerunner 21,00021,75027,50023,300 Caravan 14,00011,25014,25011,450 Vehicle Total 57,00053,50061,25049,850 Supplies Inventory Tire 50659080 Foglight 80455539 Supplies Total 130110145119 Totals 57,13053,61061,39549,96953,610 Total all columns then apply same method.

22. Total Inventory Method ItemHistorical Cost Replace- ment Cost Net Realizable Value NRV - (.20 x HC) “Floor” “Market” Value Final Inventory Value Vehicle Inventory Explorer 22,00020,50019,50015,100 Forerunner 21,00021,75027,50023,300 Caravan 14,00011,25014,25011,450 Vehicle Total 57,00053,50061,25049,850 Supplies Inventory Tire 50659080 Foglight 80455539 Supplies Total 130110145116 Totals 57,13053,61061,39549,96953,610

23. Final Total Inventory Value MethodTotal Inventory Value Item-by-Item$52,045 Category$53,619 Total Inventory$53,610

24. Presenting the Markdown to Market Assume Paterno chooses Total Inventory Method (LCM yields ending balance of $53,610) Need a journal entry to adjust inventory balance down from Historical Cost balance of $57,130 to LCM ending balance of $53,610 (a difference of $3,520). Two methods of adjustment: Direct method: Adjust directly to Inventory and directly to Cost of Goods Sold Allowance method: Adjust to contra-asset allowance account and to Holding Loss account

25. Presenting the Markdown to Market Direct Method: Cost of Goods Sold 3,520 Inventory3,520 Allowance Method: Inventory Holding Loss 3,520 Inventory LCM Allowance 3,520

26. Presenting the Markdown to Market Direct MethodAllowance Method 82,000 95,000 20,000 115,000 (53,610)(57,130) (61,390) (57,870) Sales Beg Inv. Purchs. End Inv. CoGAS COGS Gross Marg. 20,61024,130 Holding Loss (3,520) Adj. Gross Marg. 20,610 Stated at LCMStated at Historical Cost