What is LCM applied to items?
One of these circumstances is when the utility or value of inventory items is less than their cost.
The lower-of-cost-or-market (LCM) method is an inventory costing method that values inventory at the lower of its historical cost or its current market (replacement) cost..
How do you calculate lower of cost or net realizable value?
Subtract the costs required to prepare the item for sale from the expected selling price. The result is the net realizable value of the item in inventory. Add up the NRV for all items, and the result is the total net realizable value for the company’s inventory.
How do you record an LCM adjustment?
In applying the LCM rule to report a value below cost, accountants apply two adjusting transactions to recognize the loss of value.The allowance account for reducing inventory to LCM must now show a credit balance of $7,000. … The loss expense account for reducing inventory must now show a debit balance of $7,000.
Why NRV is lower than cost?
This simply means that if inventory is carried on the accounting records at greater than its net realizable value (NRV), a write-down from the recorded cost to the lower NRV would be made. In essence, the Inventory account would be credited, and a Loss for Decline in NRV would be the offsetting debit.
Why is inventory valued at lower of cost?
Historical cost refers to the cost at which the inventory was purchased. … This holds significance, because if the price at which the inventory can be sold falls below the net realizable value of the item, thus triggering a loss for the company, then the lower of cost or market method can be employed to record the loss.
What is the lower of cost or market rule?
The lower of cost or market rule states that a business must record the cost of inventory at whichever cost is lower – the original cost or its current market price. … Net realizable value is defined as the estimated selling price, minus estimated costs of completion and disposal.