yet another Qbank question on inventory additional, question, another, balance, instead

richer

here is the question

Selected financial data from Krandall, Inc.’s balance sheet for the year ended December 31 was as follows (in $):

Total Assets 11,800,000
Inventory 2,400,000
Common Stock 1,000,000
Retained Earnings 1,500,000



LIFO Reserve at Jan. 1
600,000

LIFO Reserve at Dec. 31
900,000


Krandall uses the last in, first out (LIFO) inventory cost flow assumption. The tax rate is 40%. If Krandall used first in, first out (FIFO) instead of LIFO and paid any additional tax due, its assets-to-equity ratio would be closest to:

A) 3.73

B) 4.18

C) 4.06


Your answer: A was incorrect. The correct answer was C) 4.06



With FIFO instead of LIFO:

Inventory would be higher by $900,000, the amount of the ending LIFO reserve.
Cumulative pretax income would also be higher by $900,000, so taxes paid would be higher by 0.40($900,000) = $360,000. Therefore cash would be lower by $360,000.
Cumulative retained earnings would be higher by (0.60)($900,000) = $540,000.
So assets under FIFO would be $11,800,000 + $900,000 - $360,000 = $12,340,000 and equity would be $1,000,000 + $1,500,000 + $540,000 = $3,040,000. The assets-to-equity ratio would be $12,340,000 / $3,040,000 = 4.06.



Edited 1 time(s). Last edit at Monday, April 19, 2010 at 12:24PM by lzen5.

amqata

LIFO Reserve represents profits not recognized and taxes that were not paid (because the higher costs were disguised).
1.) Add the LIFO reserve to the Inventory Balance
2.) (1-.4)(LIFO Reserve) = the profits made, but not recorded.
3.) (.4)(LIFO Reserve) = the tax liability

The numerator is as follow:
(Total Assets) + (LIFO Reserve) - (Tax Liability)

The denominator is as follows:

(Value of Common Stock) + (Retained Earnings) + (After-tax LIFO Reserve Profits)
$1,000,000 + $1,500,000 + $540,00= 3,040,000

They definitely gave too much information - Jan 31 LIFO Reserve and Inventory - to throw off the calculation, which never helps

"The change in equity equals to the after-tax rate of change COGS" is right and the same as the change in retained earnings. LIFO disguises COGS as to be higher, which results in a lower retained earnings. So a change in pre-tax COGS be the same as pre-tax retained earnings...

hopefully that helps some

AM

Ionutzakis

LIFO Reserve represents profits not recognized and taxes that were not paid (because the higher costs were disguised).
1.) Add the LIFO reserve to the Inventory Balance
2.) (1-.4)(LIFO Reserve) = the profits made, but not recorded.
3.) (.4)(LIFO Reserve) = the tax liability

The numerator is as follow:
(Total Assets) + (LIFO Reserve) - (Tax Liability)

The denominator is as follows:

(Value of Common Stock) + (Retained Earnings) + (After-tax LIFO Reserve Profits)
$1,000,000 + $1,500,000 + $540,00= 3,040,000

They definitely gave too much information - Jan 31 LIFO Reserve and Inventory - to throw off the calculation, which never helps

"The change in equity equals to the after-tax rate of change COGS" is right and the same as the change in retained earnings. LIFO disguises COGS as to be higher, which results in a lower retained earnings. So a change in pre-tax COGS be the same as pre-tax retained earnings...

hopefully that helps some

johnnyBuz

Is this Lvl 1?

Benjiko

the method given in the cirriculum is the change in equity equals to the after-tax rate of change in COGS. here, the answer seems to say that change in net income equals the LIFO reserve after tax. i am not sure which to use to calculate equity now. should I just remember as a fact now that LIFO reserve equals pretax income increase when converting LIFO to FIFO.


Am I reading the right Qbank?



Edited 1 time(s). Last edit at Monday, April 19, 2010 at 12:37PM by lzen5.

JGovender

bump......