Assume that the following inventory values are determined to be appropriate for Louger Company:
Sales 1,000 units
Carrying costs 20% of inventory value
Purchase price $10 per unit
Cost per order $10
What is the economic order quantity (EOQ) for Louger?
The basic Economic Order Quantity (EOQ) model includes which of the following assumptions?
I. The same fixed quantity is ordered at each reorder point.
II. Purchasing costs are unaffected by the quantity ordered.
III. Purchase order lead-time is known with certainty.
IV. Adequate inventory is always maintained to avoid stockouts.
Answer (D) is correct. The basic EOQ model assumes that the same fixed quantity is ordered at each reorder point, purchasing costs are unaffected by the quantity ordered, purchase order lead-time is known with certainty, and adequate inventory is always maintained to avoid stockouts.
Per the Codification, what is considered the normal capacity
of production facilities?
(d) Normal capacity refers to a range in production levels
that will vary based on business and industry-specific factors.
Normal capacity is the production expected to be achieved over a
number of periods or seasons under normal circumstances, taking
into account the loss of capacity resulting from planned maintenance.
Answer (a) is incorrect because the Codification does not
specify a formula for calculating normal capacity. Answers (b) and
(c) are incorrect because actual production may only be used if it
approximates normal capacity.
How should unallocated fixed overhead costs be treated?
(c) Unallocated fixed overhead costs are recognized as an
expense in the period in which they are incurred. Therefore, answers
(a), (b), and (d) are incorrect.
When manufacturing inventory, what is the accounting
treatment for abnormal freight-in costs?
(a) Any abnormal costs for freight, handling costs, and
wasted material are required to be treated as current period
charges, and not a part of inventory cost. Therefore, answers (b),
(c), and (d) are incorrect.
The weighted-average for the year inventory cost flow
method is applicable to which of the following inventory systems?
(b) The requirement is to determine whether the
weighted-average inventory method is applicable to a periodic
and/or a perpetual inventory system. The weighted-average
method computes a weighted-average unit cost of inventory for
the entire period and is used with periodic records. The movingaverage
method requires that a new unit of cost be computed each
time new goods are purchased and is used with perpetual records.
Based on a physical inventory taken on December 31, year
2, Chewy Co. determined its chocolate inventory on a FIFO
basis at $26,000 with a replacement cost of $20,000. Chewy
estimated that, after further processing costs of $12,000, the
chocolate could be sold as finished candy bars for $40,000.
Chewy’s normal profit margin is 10% of sales. Under the lower of
cost or market rule, what amount should Chewy report as chocolate
inventory in its December 31, year 2 balance sheet?
(c) The lower of cost or market (LCM) is used for financial
reporting of inventories. The market value of inventory is
defined as the replacement cost (RC), as long as it is less than the
ceiling (net realizable value, or NRV) and more than the floor
(NRV less a normal profit, or NRV – NP). In this case, the
Ceiling: NRV = $40,000 est. sell. price
– $12,000 disp. cost =
Floor: NRV – NP = $28,000 – (10% × $40,000) $24,000
Since RC falls below the floor, the floor (NRV – NP) is the designated
market value. Once market value is designated, LCM can be
determined by simply determining the lower of cost ($26,000) or
market ($24,000). Therefore, inventory is reported at $24,000.
Reporting inventory at the lower of cost or market is a departure
from the accounting principle of
(a) SFAC 5 establishes five different attributes on which
assets can be measured. The attribute used should be determined
by the nature of the item and the relevance and reliability of the
attribute measured. The five attributes are historical cost, current
cost, current market value, net realizable value, and present value.
Historical cost is defined as the amount of cash, or its equivalent,
paid to acquire an asset. Reporting inventory at lower of cost or
market is a departure from the historical cost principle as the inventory
could potentially be carried at the market value if lower.
Although, reporting inventory at lower of cost or market does not
create a departure from conservatism as this method carries at
inventory the lowest or most conservative value. The use of LCM
does not violate the principle of consistency either, as it would be
reported on this basis continually. Finally the use of LCM would
not violate the principle of full disclosure as its use would be discussed
in the footnotes.
The original cost of an inventory item is below both replacement
cost and net realizable value. The net realizable value less
normal profit margin is below the original cost. Under the lower
of cost or market method, the inventory item should be valued at
(d) Inventory is to be valued at the lower of cost or market.
Under this method, market is replacement cost provided that
replacement cost is lower than net realizable value (ceiling) and
higher than net realizable value less the normal profit margin
(floor). The question does not specify whether replacement cost
is above or below net realizable value, but since the original cost is
below both of these values, that information is irrelevant.
Either NRV or RC will be designated as the market value of the
inventory, and since the original cost is below both of these values,
the inventory will be valued at its original cost. Answer (c) is incorrect
because NRV – NP represents the market floor. Answers
(a) and (b) are incorrect because they are both above the
Which of the following statements are correct when a company
applying the lower of cost or market method reports its
inventory at replacement cost?
I. The original cost is less than replacement cost.
II. The net realizable value is greater than replacement cost.