Log out Go to App
Go to App

Learning Materials

Features

Discover

Chapter 8: Question 15Q (page 421)

As compared with the FIFO method of costing inventories, does the LIFO method result in a larger or smaller net income in a period of rising prices? What is the comparative effect on net income in a period of falling prices?

Short Answer

Expert verified

In case of rising price trend, FIFO is a suitable method, and in case of falling price, trend LIFO is suitable.

Step by step solution

01

FIFO vs. LIFO in case of rising prices

FIFO is based on the historic cost method. So the issued inventories are valued at the earliest cost of acquisition. Thus under the FIFO method, the current price rising to tend does not affect the inventory valuation, and the net income is free from the inflation effect.

On the contrary, under the LIFO method, the current cost is used for valuing inventory. Current cost is affected by the rising price trend reflect the inflation effect.

So, the LIFO method is affected the rising price trend.

02

FIFO vs. LIFO in case of falling prices

In case of falling prices, the FIFO may represent a cost lower higher than the current cost level. So under FIFO, inventory can be overvalued in case of a falling price trend.

On the contrary, the LIFO may represent the lover inventory value in case of falling prices as the valuation is done on the current cost level.

Unlock Step-by-Step Solutions & Ace Your Exams!

  • Full Textbook Solutions

    Get detailed explanations and key concepts

  • Unlimited Al creation

    Al flashcards, explanations, exams and more...

  • Ads-free access

    To over 500 millions flashcards

  • Money-back guarantee

    We refund you if you fail your exam.

Start your free trial

Over 30 million students worldwide already upgrade their learning with Vaia!

One App. One Place for Learning.

All the tools & learning materials you need for study success - in one app.

Get started for free

Most popular questions from this chapter

Shawnee Corp., a household appliances dealer, purchases its inventories from various suppliers. Shawnee has consistently stated its inventories at FIFO cost.

Instructions

Shawnee is considering alternate methods of accounting for the cash discounts it takes when paying its suppliers promptly.From a theoretical standpoint, discuss the acceptability of each of the following methods.

(a) Financial income when payments are made.

(b) Reduction of cost of goods sold for the period when payments are made.

(c) Direct reduction of the purchase cost.

Ann M. Martin Company makes the following errors during the current year.

(Evaluate each case independently and assume ending inventory in the following year is correctly stated.)

1. Ending inventory is overstated, but purchases and related accounts payable are recorded correctly.

2. Both ending inventory and purchases and related accounts payable are understated. (Assume this purchase was recordedand paid for in the following year.)

3. Ending inventory is correct, but a purchase on account was not recorded. (Assume this purchase was recorded and paidfor in the following year.)

Instructions

Indicate the effect of each of these errors on working capital, current ratio (assume that the current ratio is greater than 1), retained earnings, and net income for the current year and the subsequent year.

At December 31, 2016, Stacy McGill Corporation reported current assets of \(370,000 and current liabilities of \)200,000. The following items may have been recorded incorrectly.

1. Goods purchased costing \(22,000 were shipped f.o.b. shipping point by a supplier on December 28. McGill received andrecorded the invoice on December 29, 2016, but the goods were not included in McGill’s physical count of inventorybecause they were not received until January 4, 2017.

2. Goods purchased costing \)15,000 were shipped f.o.b. destination by a supplier on December 26. McGill received andrecorded the invoice on December 31, but the goods were not included in McGill’s 2016 physical count of inventorybecause they were not received until January 2, 2017.

3. Goods held on consignment from Claudia Kishi Company were included in McGill’s December 31, 2016, physical countof inventory at \(13,000.

4. Freight-in of \)3,000 was debited to advertising expense on December 28, 2016.

Instructions

(a) Compute the current ratio based on McGill’s balance sheet.

(b) Recompute the current ratio after corrections are made.

(c) By what amount will income (before taxes) be adjusted up or down as a result of the corrections?

(FIFO and LIFO) Harrisburg Company is considering changing its inventory valuation method from FIFO to LIFO because of the potential tax savings. However, management wishes to consider all of the effects on the company, including its reported performance, before making the final decision.

The inventory account, currently valued on the FIFO basis, consists of 1,000,000 units at \(8 per unit on January 1, 2017. There are 1,000,000 shares of common stock outstanding as of January 1, 2017, and the cash balance is \)400,000.

The company has made the following forecasts for the period 2017–2019.

2017

2018

2019

Unit sales (in millions of units)

1.1

1.0

1.3

Sales price per unit

\(10

\)12

\(12

Unit purchases (in millions of units)

1.0

1.1

1.2

Purchase price per unit

\)8

\(9

\)10

Annual depreciation (in thousands of dollars)

\(300

\)300

\(300

Cash dividends per share

\)0.15

\(0.15

\)0.15

Cash payments for additions to and replacement of plant and equipment (in thousands of dollars)

\(350

\)350

$350

Income tax rate

40%

40%

40%

Operating expenses (exclusive of depreciation) as a percent of sales

15%

15%

15%

Common shares outstanding (in millions)

1

1

1

Instructions

a. Prepare a schedule that illustrates and compares the following data for Harrisburg Company under the FIFO and the LIFO inventory method for 2017–2019. Assume the company would begin LIFO at the beginning of 2017.

  1. Year-end inventory balances.
  2. Annual net income after taxes.
  3. Earnings per share.
  4. Cash balance.

Assume all sales are collected in the year of sale and all purchases, operating expenses, and taxes are paid during the year incurred.

b. Using the data above, your answer to (a), and any additional issues you believe need to be considered, prepare a report that recommends whether or not Harrisburg Company should change to the LIFO inventory method. Support your conclusions with appropriate arguments.

Case 1: T J International

T J International was founded in 1969 as Trus Joist International. The firm, a manufacturer of specialty building products, has its headquarters in Boise, Idaho. The company, through its partnership in the Trus Joist MacMillan joint venture, develops and manufactures engineered lumber. This product is a high-quality substitute for structural lumber and uses lower-grade wood and materials formerly considered waste. The company also is majority owner of the Outlook Window Partnership, which is a consortium of three wood and vinyl window manufacturers.

Following is T J International’s adapted income statement and information concerning inventories from its annual report.

T J International

Sales \(618,876,000

Cost of goods sold 475,476,000

Gross profit 143,400,000

Selling and administrative expenses 102,112,000

Income from operations 41,288,000

Other expense 24,712,000

Income before income tax 16,576,000

Income taxes 7,728,000

Net income \) 8,848,000

Inventories.Inventories are valued at the lower of cost or market and include material, labor, and production overhead costs. Inventories consisted of the following:

Current Year Prior Year

Finished goods \(27,512,000 \)23,830,000

Raw materials and

work-in-progress 34,363,00033,244,000

61,875,000 57,074,000

Reduction to LIFO cost (5,263,000) (3,993,000)

\(56,612,000 \)53,081,000

The last-in, first-out (LIFO) method is used for determining the cost of lumber, veneer, Microllamlumber, TJI joists, and open web joists. Approximately 35 percent of total inventories at the end of the current year were valued using the LIFO method. The first-in, first-out (FIFO) method is used to determine the cost of all other inventories.

Instructions

(a) How much would income before taxes have been if FIFO costing had been used to value all inventories?

(b) If the income tax rate is 46.6%, what would income tax have been if FIFO costing had been used to value all inventories ? In your opinion, is this difference in net income between the two methods material? Explain.

(c) Does the use of a different costing system for different types of inventory mean that there is a different physical flow of goods among the different types of inventory? Explain.
See all solutions

Recommended explanations on Business Studies Textbooks

Intermediate Accounting

Read Explanation

Influences On Business

Read Explanation

Nature of Business

Read Explanation

Operational Management

Read Explanation

Organizational Behavior

Read Explanation

Corporate Finance

Read Explanation
View all explanations

What do you think about this solution?

We value your feedback to improve our textbook solutions.

Study anywhere. Anytime. Across all devices.

Sign-up for free