Inventory and Fixed Assest - Essay Example

Inventory is categorized as a current asset in the balance sheet. Most manufacturing companies have large amounts of inventory. That inventory can go down in value for various reasons including technological advances. “Accounting Research Bulletin No. 43 (ARB No. 43) leads to an accounting valuation method known as the lower of cost or market, or LCM” (Accountingcoach, 2011). Based on ARB No. 43 the word market refers to the current replacement cost of the item. A concept related to the calculation of lower of cost or market is net realizable value (NRV).

The net realizable value is defined as the expected price minus the cost for completion and disposal. Another variable that must be considered in LCM calculations are the lower ceiling and upper ceiling. The upper ceiling is the same amount as the NRV, while the lower ceiling is calculated by subtracting normal profit from NRV. The accounting for lower cost or market requires specific journal entries to record LCM. The two ledger accounts used by accountants are: Allowance to Reduce Inventory to LCM Loss from Reducing Inventory to LCM Take for example a company that had an inventory with a cost of $70,000 and market value of $68,000.

The journal entry to record LCM is illustrated below: Loss from Reducing Inventory to LCM 2000 Allowance to Reduce Inventory to LCM 2000 Capitalizing interest on building construction Interest are typically categorized as an expense under normal accounting rules based on the generally accepted accounting principles (GAAP). An exception to the rules applies to interest associated with construction projects. “ASC 835-20 states that institutions are required to capitalize the interest cost incurred during the acquisition process or construction of the asset” (Patel, 2010).

As interest gets capitalized they become a part of the historical price of an asset which subsequently must be depreciated over the useful life of the asset. FASB statement No. 34, Capitalization of Interest Costs, provides the guidelines that accountants must follow in order to capitalize interest associated with construction of a building or asset. Three conditions are necessary for the capitalization of interest: 1. The qualifying expenditures must have already occurred 2. The company must be paying actual interest 3.

Activities to prepare the asset must be already underway (Young & Gowans, 2009). Expenditures that require cash payment or other transfers of assets are considered qualifying expenditures. Inventory that are manufactured on a routine basis do not qualify for the capitalization of interest. Property that was donated also does not qualify for the capitalization of interest. The two methods to compute capitalization of interest are the weight average and the specific method. There are limits to the amount of interest that may be capitalized.

The general rule is that companies can only capitalize interest up to the amount of the incurred interest during an accounting period. “FASB No. 34 requires for each accounting period disclosure in the financial statements or the notes of the total amount of interest cost incurred and any amount of interest that was capitalized in each accounting period” (Young, et al., 2009). Recording gain or loss on asset disposal