Running head: Inventoriable Costs
Judgement Case 9-1: Inventoriable costs;
lower of cost and net realizable value; retail inventory method
Michael Grice
Liberty University
Grice 1
Running head: Inventoriable Costs
Requirement 1
According to our text book, as defined earlier in the term, Inventory is defined to
encompass the following; raw materials, work in process goods, and finished products. All of the
previously mentioned items will be considered ‘inventory’ if they are considered to be portion of
the entity’s assets and are/will be ready for sale. In this scenario, I believe Hudson Company
should recognize the warehousing costs that are related to the wholesale inventory and should do
so by recognizing these as an overhead expense. This will be an expense related to maintaining
the inventory in the warehouse while it awaits sale. Given the scenario, I believe Hudson
Company would also be able to recognize the warehouse costs as an indirect cost to produce
goods, so I do not think it would be a stretch to recognize these costs as part of the costs of goods
sold.
Requirement 2
Net realizable value or the NRV, is the estimated selling price of goods, minus
the potential costs incurred in the course of their sale or disposal. The cost in this decision
making process simply refers to the original cost of the inventory as it stands. The Lower of Cost
of Market (LCM) rule is more likely to be applicable when a business has held inventory for a
long time, since the passage of time can bring about the preceding conditions (deterioration of
inventory, obsolescence of inventory, etc.) (Inventory Valuation). Using the lower of cost and net
realizable value will aloe an entity to minimize a write off that may need to occur at the end of an
accounting period.
Given the information regarding Hudson Company and their inventory, the balance sheet
they prepare should contain the wholesale inventory at replacement cost. Once the LCM method
is applied to the inventory, the replacement cost will be defined as market since it is lower than
Grice 2
Running head: Inventoriable Costs
the net realizable value. Under this system, market cannot exceed the NRV less any normal profit
margin. In the situation regarding Hudson Company, the replacement cost is just below the
original cost and replacement cost is also below the NRV, while being above the NRV less the
profit margin. This would lead Hudson Company to recognizing the replacement cost as the
LCM and that figure will be reported on the balance sheet.
Requirement 3
One of the calculations that Hudson Company will need to carry out will involve the
cost-to-retail percentage, which will be used to calculate the value of the ending retail inventory
and how it should be reported. In this calculation, Hudson Company will have to determine how
to treat freight-in costs. In this instance, freight-in should be considered in the cost amounts to
determine the cost-to-retail percentage, as it is directly incurred during the course of business.
The Hudson Company will also have to consider how to handle the costs associated with net
markups and net markdowns. These later two amounts should not be deducted from the retail
amounts when considering the calculation of the cost-to-retail percentage.
Requirement 4
In this scenario, the Hudson Company’s selected method of retail inventory only offers an
approximation of the lower of average cost and net realizable value because they do not
recognize the deduction of net markdowns from the retail amounts to determine how they will
report the cost-to-retail percentages. This is important, as the cost-to-retail percentage ultimately
feeds into the calculation of the ending inventory and also leads to an amount below cost, which
contributes to the approximation as well.
In regard to the approximation, I believe Hudson Company should attempt to be more
exact in their calculations of their cost-to-retail percentage. 1 Corinthians 14:40 says, “Let all
Grice 3
Running head: Inventoriable Costs
things be done decently and in order.” Hudson Company should heed this biblical advice and
attempt to be as detailed as possible in their financial reporting. If they do strive to be an entity
that operates in accordance with Christian principles, they will want to produce financial reports
that are as accurate as possible and stray from approximations whenever possible.
Grice 4
