P9-2 (Lower-of-Cost-or-Market) T. Allen Home Improvement Company installs replacement siding, windows, and louvered glass doors for single family homes and condominium complexes in northern New Jersey and southern New York. The company is in the process of preparing its annual financial statements for the fiscal year ended May 31, 2007, and Tim Taylor, controller for T. Allen, has gathered the following data concerning inventory. At May 31, 2007, the balance in T. Allen’s Raw Material Inventory account was $408,000, and the Allowance to Reduce Inventory to Market had a credit balance of $29,500. Taylor summarized the relevant inventory cost and market data at May 31, 2007, in the schedule below. Taylor assigned Patricia Richardson, an intern from a local college, the task of calculating the amount that should appear on T. Allen’s May 31, 2007, financial statements for inventory under the lower-of-cost or-market rule as applied to each item in inventory. Richardson expressed concern over departing from the cost principle.
Replacement Sales Net Realizable Normal
Cost Cost Price Value Profit
Aluminum siding $ 70,000 $ 62,500 $ 64,000 $ 56,000 $ 5,100
Cedar shake siding 86,000 79,400 94,000 84,800 7,400
Louvered glass doors 112,000 124,000 186,400 168,300 18,500
Thermal windows 140,000 122,000 154,800 140,000 15,400
Total $408,000 $387,900 $499,200 $449,100 $46,400
Instructions
(a) (1) Determine the proper balance in the Allowance to Reduce Inventory to Market at May 31, 2007.
(2) For the fiscal year ended May 31, 2007, determine the amount of the gain or loss that would be recorded due to the change in the Allowance to Reduce Inventory to Market.
(b) Explain the rationale for the use of the lower-of-cost-or-market rule as it applies to inventories
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