Question

Question:At December 31, 2017, Ashley Co. has outstanding purchase commitments for 150,000 gallons, at \(6.20 per gallon, of a raw material to be used in its manufacturing process. The company prices its raw material inventory at cost or market, whichever is lower. Assuming that the market price as of December 31, 2017, is \)5.90, how would you treat this situation in the accounts?

Short answer

The company should recognize the unrealized holding gain or loss income of $45,000 at the end of the year.

Step-by-step solution

Step-by-step-solutionStep1:

The unrealized holding gain or loss- income is calculated as follows:

$$\begin{gathered} \mathbf{Unrealized}\mathbf{}\mathbf{Holding}\mathbf{}\mathbf{Gain}\mathbf{}\mathbf{or}\mathbf{}\mathbf{Loss}\mathbf{-}\mathbf{Income}\mathbf{=}\mathbf{Total}\mathbf{}\mathbf{Units}\mathbf{\times }\left(\mathbf{Contract}\mathbf{}\mathbf{Price}\mathbf{-}\mathbf{Market}\mathbf{}\mathbf{Price}\right) \\ \mathbf{=}\mathbf{150}\mathbf{,}\mathbf{000}\mathbf{\times }\left(\mathbf{\$}\mathbf{6}\mathbf{.}\mathbf{20}\mathbf{-}\mathbf{\$}\mathbf{5}\mathbf{.}\mathbf{90}\right) \\ \mathbf{=}\mathbf{\$}\mathbf{45}\mathbf{,}\mathbf{000} \end{gathered}$$

Step 2:

The unrealized holding gain or loss- income of $45,000 is recorded by debiting unrealized holding gain or loss- income and crediting estimated liability on purchase commitments by $45,000, respectively.