Hey Guys, I’m alittle confused as to which approach to use when valuating the inventory, The accounting standards mentions that all inventory should be valued at lower of market cost, however why then would we carry inventory at lifo or fifo? I’ve obviously missed something really obvious. Some clarification would be appriciated. Thanks
To give it the full title it is the “lower of cost or market”. LIFO and FIFO are ways of working out the cost - under FIFO, you value your inventory using the more recent purchase costs, under LIFO you value it at the older purchase costs. However, if the value of the inventory turns out to be impaired - say you own a load of black and white TVs that cost you $200 each, but you can only sell them for $20 then it you have to use the market value. This doesn’t crop up that often though because a company with inventory worth less than what it paid for it is a loss making company, and won’t be around very long.
Alright, so if i’ve understood correctly: One only re-evaluates your inventory to lower cost or market when the market price of inventory is lower than what is stated in your fifo or lifo inventory.?
Low of cost Market is a method used in inventory valuation, meaning when the compagny is being sold, when there is a merge or cessation of activities. LMC is used to access the Market value of the inventories. FIFO and LIFO reflect the economic value of the invetories, they reflect the historical cost of inventory which is not neccessarily equal to the market value of those inventories. e.g. Let’s said you have bought some goods for 100 at price 10 period 1, and 150 at price 11 period 2. As long as you’re in business you will be charging either of this price to the customer(depnding on either FIFO or LIFO) Now let said you want to sell your company, how much will investor be willing to pay for those investories? They will ask themselves what’s the cheapest price available for the same goods on the market right now, and they will use that price to value your inventory. That price is what is called the lower of market cost. To recapitulate 1-FIFO LIFO is the price charged to the income statement, it’s the price at which inventories are carried on the balance sheet of a firm that still in business Lower of cost Market, is the cheapest price available on the market for the same good, it’s used to the determine the market value of inventory. is the price at which inventory are carried on the balance sheet of a firm in liquadation, in the process of acquisition or merger.
Thank you so much for the explanation Giristide, very much appreciated. : )