In short
When a company has a firm, noncancelable commitment to buy goods at a fixed price and the market price falls below that price, it recognizes the loss and a liability at the balance sheet date, before the goods are received.
Key takeaways
- If the market price later recovers, a gain is recognized up to the amount of the loss previously recorded.
- Commitments that can be cancelled without penalty don't give rise to a loss.
- Material commitments are disclosed even when no loss is recognized.
Example
A commitment to buy goods for $500,000 when their market price at year-end is $440,000: recognize a $60,000 loss and liability.
Where it's tested
FAR: Inventory — study notes, a five-minute revision sheet and practice questions.
Practise: 3 questions
Question 1 of 3 · 0 answered
A company uses LIFO for both tax and financial reporting. During a period of rising prices, which of the following is true relative to FIFO?