Evaluating the Income Statement and Cash Flow Effects of Lower of Cost or Market
Harvey Company prepared its annual financial statements dated December 31, 2011. The company applies the FIFO inventory costing method; however, the company neglected to apply LCM to the ending inventory. The preliminary 2011 income statement follows:

Assume that you have been asked to restate the 2011 financial statements to incorporate LCM. You have developed the following data relating to the 2011 ending inventory:

Required:
1. Restate this income statement to reflect LCM valuation of the 2011 ending inventory. Apply LCM on an item-by-item basis and show computations.
2. Compare and explain the LCM effect on each amount that was changed on the income statement in requirement (1).
3. What is the conceptual basis for applying LCM to merchandise inventories?
4. Thought question: What effect did LCM have on the 2011 cash flow? What will be the long-term effect on cashflow?

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Sales revenue $280,000 Cost of goods sold Beginning inventory Purchases $ 33,000 184,000 Goods available for sale 217,000 Ending inventory (FIFO cost) 46,500 Cost of goods sold 170,500 Gross profit Operating expenses 109.500 62,000 Pretax income 47,500 Income tax expense (30%) 14,250 $ 33,250 Net income