Client Memo

To: Client

From: Accountant

Ref: Client Questions

Dear Client,

I have received a list of concerns about information we have requested to support the current financial reporting engagement. I have evaluated your questions and respectively provide the following information to explain the purpose for our requests.

Lower of Cost or Market

Inventory values should most closely represent their replacement cost (Schroeder, Clark, & Cathey, 2011). Accounting principles dictate reporting inventory at the lower of cost or market. To report properly the inventory value on the financial statements, we will evaluate the inventory cost compared to market value. The financial statements report inventory at the lower of cost or market. Economic and market changes can affect the value of inventory on hand. These changes warrant analysis of inventory cost to determine if any adjustments are necessary. When market values are less than historical costs, required adjustments value inventory at market cost. The materiality of any difference will determine the necessity for an inventory adjustment.

To determine if inventory impairment exists, the comparison of inventory costs to market cost uses a three-part cost analysis: ceiling limit, floor limit, and replacement cost. The ceiling limit is net realizable value (NRV) calculated using sales less costs to complete Introduction to Lower, n.d.). The floor limit uses the sum of NRV less normal profit. The market cost used to evaluate any impairment will be the value between the ceiling and floor limits (Introduction to Lower, n.d.). The market cost cannot be below the floor limit or higher than the ceiling limit. Organizing the ceiling, floor, and replacement cost amounts in descending order, the middle number will be the market cost to compare against historical cost (Introduction to Lower, n.d.). The calculated difference adjusts total inventory using an allowance account. The allowance account clarifies the financial information by showing the current decline in inventory cost. This reduced value reflects the true worth of the inventory. In order for us to evaluate and value your inventory correctly, we will send you a list of additional items needed to complete the inventory value process.

Capitalized Interest

The process to determine total cost in building construction projects means identifying costs associated with completion of the project. Total costs include payments for purchase invoices, receipts for supplies, employee labor expenses, and overhead in the form of loan interest (Schroeder, et al, 2011). Typically, interest expense is part of general operating expenses. In a situation in which a building or asset is under construction, interest paid on loans used to finance the construction process is allocated as part of the total building cost. Interest included as part of the project cost includes both long-term and short-term loan interest paid. Long-term interest refers to mortgage finance loans. Short-term interest refers to interest paid for the use of a credit line or credit extended from vendors. The accumulation of costs until completion forms the historical cost. In the form of depreciation expense, the total building costs reduce net income (Schroeder, et al, 2011). At the time the building is ready for occupancy, any finance interest related to the building will revert to a normal operating expense interest. In support of historical cost of the building project, we will need an allocation of total finance interest paid in support of the building project.

To classify interest costs associated with the building project, please provide the portion of interest expense directly associated with the building project. Please provide interest amounts paid on credit balances not already recorded as a building expense.

Gain or Loss on Asset Disposal

The process of depreciating