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3.8 Lower of cost or market considerations when using LIFO
Publication date: 31 Dec 2021
us Inventory guide
Although LIFO costs are generally lower than FIFO costs, which would ordinarily be expected to approximate replacement cost or a relationship to current selling prices, the use of LIFO does not eliminate the need to reflect inventory at the lower of cost-or-market.
3.8.1 LIFO lower of cost or market considerations — general guidance
Under ASC 330-10-35-8, the lower of cost or market rule can be applied to LIFO inventories “either directly to each item or to the total of the inventory (or, in some cases, to the total of the components of each major category). The method shall be that which most clearly reflects periodic income."
The FinREC LIFO guidance considers in broad terms the appropriate application of this principle and includes the following conclusions:
- LIFO pools generally constitute reasonable groupings for purposes of evaluating lower of cost or market. For companies using dollar-value LIFO, the lower of cost or market test should generally be applied to inventory in a particular pool. Aggregating similar pools (e.g., those involving an integrated product relationship or similar product lines) may also be appropriate, but aggregating dissimilar pools is generally not appropriate.
- The analysis for excess and obsolete reserves on LIFO inventory should be performed at the individual item level. Thus, a company that uses dollar-value LIFO should also record lower of cost or market reserves for individual obsolete or discontinued inventory items, even if a reserve is not necessary when measured in total for a particular pool.
Similar to the discussion in IV 1.3.2.3 for inventories measured using FIFO or average cost, lower of cost or market declines that are expected to be restored within the fiscal year, prior to the inventory being sold, should not be recognized in an interim period. If recovery is not expected prior to the inventory being sold or the end of the same fiscal year, declines in market value below LIFO cost should be recognized in the interim period in which they occur.
3.8.2 LIFO — individual item reserve methodologies
The FinREC LIFO guidance discusses potential alternatives to how to determine the LIFO cost of individual items included in a LIFO inventory pool, which is necessary to determine the appropriate lower of cost or market adjustment when using an individual item approach. The LIFO cost of each individual item can be determined:
- Using a weighted average of the base year and total LIFO cost;
- Using the ratio of total LIFO to FIFO cost; or
- By performing the LIFO calculations with and without each of the individual items, and assuming the incremental differences represent the LIFO carrying amounts for each item.
3.8.3 LIFO — reversal of valuation reserves
ASC 330-10-35-14 discusses the new cost basis after a write down.
In the case of goods which have been written down below cost at the close of a fiscal year, such reduced amount is to be considered the cost for subsequent accounting purposes.
In accordance with ASC 330, the reduced cost of inventory would be recognized in income when the goods are subsequently sold. However, under the LIFO cost flow assumption, inventory is not considered sold as each physical unit is transferred to a customer. Inventory is only considered sold when the overall inventory quantity in a LIFO pool declines. Thus, it is unclear how this guidance should be applied in a LIFO context.
The FinREC LIFO guidance concludes that a company should reverse its lower of cost or market reserves after it disposes of the physical units of inventory for which reserves were provided. Physical units subsequently acquired should be recorded at LIFO cost without the reserve. Therefore, a company would reverse the lower of cost or market reserves related to remaining inventory items if the inventory turns over in a subsequent period. Reserves related to obsolete or discontinued items that will not be replaced should be reversed when the items are removed from inventory (whether sold or scrapped).
The FinREC LIFO guidance does not specifically address the appropriate accounting when the market recovers but the inventory has not turned over or been disposed of. However, under ASC 330-10-35-14, adjustment of the reserve (other than in a subsequent interim period of the same fiscal year) prior to disposition of the related inventory is not permitted.
PwC. All rights reserved. PwC refers to the US member firm or one of its subsidiaries or affiliates, and may sometimes refer to the PwC network. Each member firm is a separate legal entity. Please see www.pwc.com/structure for further details. This content is for general information purposes only, and should not be used as a substitute for consultation with professional advisors.
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