Question

Issue 5: Inventory

Included in BCE’s inventory (valued using the LIFO method) are the following:

• $100,000 (cost) of computers which manufacturers ceased producing in the middle of 20X3.   Although the wholesale value of these computers now is only about $60,000, the retail value (if they could all be sold today, which they can’t be) is approximately $110,000. The selling costs of these specific machines are considered negligible, and a normal profit margin is approximately 25% of sales price. The retail market is “thin” and it will take some time to sell the computers. Management intends to sell all of these computers at retail and believes that the retail value of these computers is likely to decrease at an average rate of 5 percent every quarter for the next year; thus, on average a computer with a retail value of $1,000 on 12/31/X3 would have an average retail value of $950 and $900 during the first two quarters of 20X4, respectively. Management believes that the computers will be sold within the next year as follows--first quarter 40% of inventory, second quarter 35%, third quarter 20 %, and fourth quarter 5% at market values at the time of sale. These projections seem reasonable. It is currently February 15 and you note that sales are right on schedule and that retail prices have dropped a bit from year-end, as projected.
• Because of discontinuance of the above computers, many suppliers of parts for these computers have chosen to quit manufacturing the items with the result that shortages are occurring. As a result, BCE’s $50,000 inventory of parts for these machines has increased in value and would now cost $65,000 to replace (its retail value is $110,000). Historically, the normal profit margin on sales of parts is 40% of sales price. Also, management has pointed out to you that computers in inventory that don’t sell could be used for parts. But management does not anticipate the need to do this.
• Historically, BCE (and competitors) have in general separated Computers from Parts when calculating the lower of cost or market for inventory.

Does BCE need to record an inventory writedown to reflect a lower of cost or market value? If so, how much?

Answer 1

What is the Effect of an Inventory Write Down?

An inventory write-down is treated as an expense, which reduces net income. The write-down also reduces the owner’s equity. This also affects inventory turnover for subsequent periods.

How to Perform an Inventory Write Down?

First, the accountant needs to determine the size of the inventory’s reduction. If it is relatively small, the accountant can simply factor the decrease in the company’s cost of goods sold. This is done by crediting the inventory account and debiting the cost of goods sold.

If the reduction is larger, then the accountant reduces the value of inventory by crediting the inventory account and debiting an account such as “write-down damaged goods.”

BCE (and competitors) have in general separated Computers from Parts when calculating the lower of cost or market for inventory.

Inventory Vale Is Calculated Lower of cost or net Market for inventory Value Which Ever Is Less

Does BCE need to record an inventory writedown to reflect a lower of cost or market value? If so, how much?

Inventory Vale Is Calculated Lower of cost or net Market for inventory Value Which Ever Is Less

Writen Down Valu is 35000( Cost  100000- Market value 65000)