You have learned that inventory may be written down to its current replacement cost or its...

You have learned that inventory may be written down to its current replacement cost or its net realizable value if these amounts are lower than original cost. Why do you think the accounting profession has decided to violate the cost concept and reduce the value of inventory in these circumstances?

Expert Solution

Valuation of inventory is done at lower of cost or market value (LCMV).

Cost of inventory refers to historical cost of inventory, whereas market value of inventory refers to Net Realizable Value or replacement cost (if net realizable value is not available).

This implies that inventory cannot be valued above its cost but it can be written down to its market value (if it is less than cost). This treatment reduces the reported profit as closing value of inventory is valued below cost. This treatment is in line with the principle of prudence (or Conservatism), where provisions are made for all known expenses and losses (whether they are certain or uncertain).

Another reason can be, if inventory is valued at market value it represents fair market value of asset as on the balance sheet date. Fair value of asset on balance sheet date helps the viewer of financial statement in better decision making.

ekkarill92 answered 1 year ago

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You have learned that inventory may be written down to its current replacement cost or its...

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