Question

Interim Financial Reporting―Inventories

1) Which of the following statements is false regarding the interim financial reporting of inventories?

a.   Accounting standards permits companies to use estimated gross profit rates to determine the cost of goods sold during interim periods.

b.   LIFO liquidation computation should be done with respect to the entire year, not just the current reporting period.

c.   Reduction for lower of cost or market need not be recognized if we expect market prices for the affected inventory to recover by year-end.

d.   Standard cost variance analysis must be performed and recognized with respect to the interim period only.

2) Describe common situations a company will use to choose between using the current rate method and the temporal method of foreign currency translation/remeasurement for foreign subsidiaries. PLEASE PROVIDE EXPLANATION

Answer 1

Given that the following information

Interim Financial Reporting―Inventories

1) Which of the following statements is false regarding the interim financial reporting of inventories?

a.   Accounting standards permits companies to use estimated gross profit rates to determine the cost of goods sold during interim periods.

b.   LIFO liquidation computation should be done with respect to the entire year, not just the current reporting period.

c.   Reduction for lower of cost or market need not be recognized if we expect market prices for the affected inventory to recover by year-end.

d.   Standard cost variance analysis must be performed and recognized with respect to the interim period only.

Solution:

1. (d) standard cost variance analysis must be performed and recognized with respect to the interim period only is not true in respect of interim financial reporting of inventories

Answer 2

1. The false statement regarding the interim financial reporting of inventories is:

c. Reduction for lower of cost or market need not be recognized if we expect market prices for the affected inventory to recover by year-end.

This statement is false because under the lower of cost or market (LCM) rule, if the market value of inventory is lower than its cost, a reduction in value should be recognized, regardless of whether the company expects market prices to recover by year-end. The LCM rule requires inventory to be reported at the lower of its historical cost or its current market value, whichever is lower. It ensures that inventory is not overstated on the financial statements and provides a conservative approach to valuing inventory.

2. Choosing between the current rate method and the temporal method of foreign currency translation/remeasurement for foreign subsidiaries depends on the functional currency and the nature of the foreign subsidiary's operations:

a. Current Rate Method: The current rate method is used when the functional currency of the foreign subsidiary is the local currency, and its operations are relatively self-contained. In this method, all balance sheet items (assets and liabilities) are translated at the current exchange rate, and income statement items (revenues and expenses) are translated at the average exchange rate for the period.

b. Temporal Method: The temporal method is used when the functional currency of the foreign subsidiary is the reporting currency of the parent company, and the subsidiary's operations are highly integrated with those of the parent. In this method, monetary balance sheet items (cash, receivables, payables, etc.) are translated at the current exchange rate, while non-monetary balance sheet items (inventory, fixed assets, etc.) are translated at historical exchange rates. Income statement items are translated at exchange rates that approximate the rates at which the revenues and expenses were incurred.

The choice between the two methods is significant as it can impact the reported financial results and financial ratios of the parent company. Companies will consider the nature of the foreign subsidiary's operations, the degree of integration with the parent, and the stability of the foreign currency when deciding which method to use for foreign currency translation/remeasurement.