The accounting environment in the USA Essay Example | Topics and Well Written Essays - 1250 words

The accounting environment in the USA - Essay Example The amount of inventory in the warehouse of a company can decrease in value as prices of goods can go down in price due to market fluctuations. A good example of this phenomenon can be visualized in agricultural crops. These crops vary in price on a daily basis as their prices are traded in the open market as commodities. In any type of industry the market of value of inventory can vary and as a consequence it can distort the current assets account balance. Inventory is part of current assets. Accountants should always keep in mind the conservatism principle which states that when in doubt an accountant should choose the method that is less likely to overstate the assets or income of a company. The application of lower of cost or market is aligned with the conservatism constraint. Valuing inventory at lower of cost or market implies writing down inventory when the value of inventory is lower than its costs. There is a contra account in the balance sheet called Allowance to Reduce Inventory to LCM that is used to make the necessary adjustment. â€Å"This balance sheet account is used to report the amount that the inventory's market amount is below the inventory's cost amount†. The LCM method defines the market price of an item as the current replacement cost. An example of how to apply the method and its corresponding journal entry is illustrated below: Inventory value = $10000 Current replacement cost = $9500 $10000 – $9500 = $500 The $500 is considered a loss Journal Entry: Loss from Reducing Inventory to LCM $500 Allowance to Reduce Inventory to LCM $500 Capitalizing interest on building construction One of the characteristics of the construction industry is that projects take a long time to complete. Typically in business interest costs associ ated with financing any project are categorized as an expense. The Financial Accounting Standards Board (FASB) created a special rule for the construction industry that allows accountants to capitalize interest on construction project. FASB Statement No. 34 stipulates the guidelines that must be followed to calculate capitalization of interest in construction projects. It also states the disclosure requirements for capitalized interest in the financial statements of a company. The interest on any loan may only be capitalized while the construction occurs. There are certain criteria that must be met in order to be able to capitalize construction interest. The three criteria are: qualifying expenditures must already have been made activities to prepare assets for use must be in progress The firm must actually be paying interest (Young, 1994). At the moment that any of these three conditions seize to exist the company becomes ineligible to capitalize interest associated with constructi on projects. Any inventory used that is routinely manufactured or produced on a repetitive basis does not qualify for capitalization of interest if the inventory is purchased through debt (Young, 1994). Recording