Question

When a company uses the perpetual inventory method, which of the following would be the entry to adjust inventory to lower-of-cost-or-market?

a) Debit loss on inventory and credit merchandise inventory
b) Debit merchandise inventory and credit inventory adjustment
c) Debit cost of goods sold and credit merchandise inventory
d) Debit merchandise inventory and credit cost of goods sold

Answer 1

The correct entry when adjusting inventory to lower-of-cost-or-market using the perpetual inventory method is to debit loss on inventory and credit merchandise inventory, reflecting the conservatism principle in accounting.

Step-by-step explanation:

When a company uses the perpetual inventory method, the proper accounting entry to adjust inventory to lower-of-cost-or-market is to debit a loss account, typically referred to as Loss on Inventory Write Down (or a similar title), and credit the Merchandise Inventory account directly. This reflects the decrease in the value of the inventory on hand when the market price falls below the cost at which the inventory was originally recorded. Therefore, the correct entry would be:

• Debit loss on inventory and credit merchandise inventory

This entry is a reflection of the conservatism principle in accounting, which advises that expenses and liabilities should be recorded as soon as possible, but revenues only when they are realized.