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Chapter 8: Question 7Q (page 421)
Define “cost” as applied to the valuation of inventories.
In valuing inventory, product costs are attached to the inventory.
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Question: In January 2017, Susquehanna Inc. requested and secured permission from the commissioner of the Internal Revenue Service to compute inventories under the last-in, first-out (LIFO) method and elected to determine inventory cost under the dollar-value LIFO method. Susquehanna Inc. satisfied the commissioner that cost could be accurately determined by use of an index number computed from a representative sample selected from the company’s single inventory pool.
Instructions
(a) Why should inventories be included in (1) a balance sheet and (2) the computation of net income?
(b) The Internal Revenue Code allows some accountable events to be considered differently for income tax reporting purposes and financial accounting purposes, while other accountable events must be reported the same for both purposes. Discuss why it might be desirable to report some accountable events differently for financial accounting purposes than for income tax reporting purposes.
(c) Discuss the ways and conditions under which the FIFO and LIFO inventory costing methods produce different inventory valuations. Do not discuss procedures for computing inventory cost.
Jane Yoakam, president of Estefan Co., recently read an article that claimed that at least 100 of the country’s largest 500 companies were either adopting or considering adopting the last-in, first-out (LIFO) method for valuing inventories. The article stated that the firms were switching to LIFO to
(1) neutralize the effect of inflation in their financial statements,
(2) eliminate inventory profits, and (3) reduce income taxes. Ms. Yoakam wonders if the switch would benefit her company.
Estefan currently uses the first-in, first-out (FIFO) method of inventory valuation in its periodic inventory system. The company has a high inventory turnover rate, and inventories represent a significant proportion of the assets.
Ms. Yoakam has been told that the LIFO system is more costly to operate and will provide little benefit to companies with high turnover. She intends to use the inventory method that is best for the company in the long run rather than selecting a method just because it is the current fad.
Instructions
(a) Explain to Ms. Yoakam what “inventory profits” are and how the LIFO method of inventory valuation could reduce them.
(b) Explain to Ms. Yoakam the conditions that must exist for Estefan Co. to receive tax benefits from a switch to the LIFO method.
Presented below is information related to Kaisson Corporation for the last 3 years.
Quantities Base-Year Cost Current-Year Cost
in Ending
Item Inventories Unit Cost Amount Unit Cost Amount
December 31, 2016
A 9,000 \(2.00 \)18,000 \(2.20 \)19,800
B 6,000 3.00 18,000 3.55 21,300
C 4,000 5.00 20,000 5.40 21,600
Totals \(56,000 \)62,700
December 31, 2017
A 9,000 \(2.00 \)18,000 \(2.60 \)23,400
B 6,800 3.00 20,400 3.75 25,500
C 6,000 5.00 30,000 6.40 38,400
Totals \(68,400 \)87,300
December 31, 2018
A 8,000 \(2.00 \)16,000 \(2.70 \)21,600
B 8,000 3.00 24,000 4.00 32,000
C 6,000 5.00 30,000 6.20 37,200
Totals \(70,000 \)90,800
Instructions
Compute the ending inventories under the dollar-value LIFO method for 2016, 2017, and 2018. The base period is January 1, 2016,and the beginning inventory cost at that date was $45,000. Compute indexes to two decimal places.
Midori Company had ending inventory at end-of-year prices of \(100,000 at December 31, 2016; \)119,900 at December 31, 2017; and $134,560 at December 31, 2018. The year-end price indexes were 100 at 12/31/16, 110 at 12/31/17,and 116 at 12/31/18. Compute the ending inventory for Midori Company for 2016 through 2018 using the dollar-valueLIFO method.
Distinguish between product costs and period costs as they relate to inventory.
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