Question

Smart Company prepared its annual financial statements dated December 31. The company reported its inventory using the FIFO inventory costing method and failed to evaluate its net realizable value at December 31. The preliminary income statement follows:

Smart Company prepared its annual financial statements dated December 31. The company reported its inventory using the FIFO inventory costing method and failed to evaluate its net realizable value at December 31. The preliminary Income statement follows Sales Revenue Cost of Goods Sold 316,000 beginning Inventory Purchases $ 48,000 218,000 266,000 92,500 Goods Available for Sale Ending Inventory Cost of Goods Sold Grosa Profit Operating Expenses Income from Operations Income Tax Expense (30%) Net Income 173,500 142,500 79,000 63,500 19,050 $ 44,450 Assume you have been asked to restate the financial statements to incorporate LCM/NRV. You have developed the following data relating to the ending inventory Cast Not Real ¡ฮable 3,700 B 1,s500 C 8,800 512 44 400 13,500 17,600 513 3,40017,000 $92,500 TIP. Inventory write-downs do not affect the cost of goods available for sale Instead, the effect of the write-down is to reduce ending inventory, which increases Cost of Goods Sold and then affects other amounts in the income statement Required: 1. Restate the income statement to reflect LCM/NRV valuation of the ending inventory Apply LCM/NRV on an item-by-item basis 2. Compare and explain the LCM/NRV effect on each amount in the income statement thet was changed in requirement 1

Answer 1

Part -(1)	SMART COMPANY
	Income statement
	For the year ended December 31
	Particulars		Amount ($)
	Sales revenue		316,000
	Cost of goods sold:
	Beginning inventory	48,000
	Purchases	218,000
	Goods Available for Sale	266,000
Note 1	Ending Inventory	79,300
	Cost of goods sold		186,700
	Gross profit		129,300
	Operating expenses		79,000
	Income from operations		50,300
	Income tax expenses (50,300*30%)		15,090
	Net income		35,210
Part -(2)	Comparison of LCM effect:-
	Item changed	FIFO Cost basis	LCM basis	Amount of Increase (Decrease)
	Ending Inventory	92,500	79,300	(13,200)
	Cost of goods sold	173,500	186,700	13,200
	Gross profit	142,500	129,300	(13,200)
	Income from operations	63,500	50,300	(13,200)
	Income tax expenses	19,050	15,090	(3,960)
	Net income	44,450	35,210	(9,240)
	We can see that Ending Inventory, Cost of goods sold, Gross profit, Income from operations, Income tax expenses and net income each got changed due to the change in method of valuation of inventory.
Note 1	Computation of ending inventory on LCM basis:
	Item	Original Unit cost	Market value per unit	LCM per unit	Quantity	LCM valuation
	A	12	13	12	3,700	44,400
	B	9	7	7	1,500	10,500
	C	2	4	2	8,800	17,600
	D	5	2	2	3,400	6,800
			LCM Inventory Valuation			79,300