When replacement cost for inventory drops below the amount paid, the lower (more conservative) figure is reported on the balance sheet and the related loss is recognized on the income statement. In applying lower-of-cost-or-market, the remaining bicycle is now reported by Rider Inc. at its purchase value. A loss of $50 reflects the reduction in the reported inventory account from $260 to $210. Sales value. Inventory also has a sales value that can, frequently, be independent of replacement cost. The sales value of an item can fall for any number of reasons. For example, technological innovation will almost automatically reduce the amount that can be charged for earlier models. This phenomenon can be seen whenever a new digital camera or cell phone is introduced to the market. Older items still in stock often must be discounted significantly to attract buyers. Similarly, changes in fashions and fads can hurt the sales value of certain types of inventory. Swim suits usually are offered at reduced prices in August and September as the summer season draws to a close. Damage can also impact an owner’s ability to recoup the cost of inventory. Advertised sales tempt buyers to stores by offering scratched and dented products, such as microwaves and refrigerators, at especially low prices.
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For accounting purposes, the sales value of inventory is normally defined as its estimated net realizable value. As discussed in the previous chapter, this figure is the amount of cash expected to be derived from an asset. For inventory, net realizable value is the anticipated sales price less any cost required so that the sale will occur. For example, the net realizable value of an older model digital camera might be the expected amount a customer will pay after money is spent to advertise the product. The net realizable value for a scratched refrigerator is likely to be the anticipated price of the item less the cost of any repairs that must be made prior to the sale. As with purchase value, if the sales value of an inventory item falls below its historical cost, the lower figure is reported along with a loss to mirror the impact of the asset reduction.
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