honeycfa

Which of the following is least likely to be a result of using last in, first out (LIFO) as the inventory method during periods of decreasing prices compared to using first in, first out (FIFO)?

A) Higher taxes.

B) Higher cash flows.

C) Lower COGS.

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Using LIFO during periods of declining prices will result in lower cash flows because net income will be higher than if FIFO is used leading to more taxes being paid out.

honeycfa

If all else holds constant in periods of rising prices and inventory levels:

A) FIFO firms have higher debt to equity ratios than LIFO firms do.

B) LIFO firms have higher gross profit margins than FIFO firms do.

C) FIFO firms will have greater stockholder's equity than LIFO firms do.

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The FIFO method of inventory accounting assigns the cost of the earliest units acquired to goods transferred out and the cost of most recent acquisitions to ending inventory. When prices are rising, the cheaper goods in beginning inventory reflecting earlier purchases are assigned to COGS (hence, higher income and higher shareholder's equity through retained earnings.)

Explanations for other choices:

In periods of rising prices and inventory levels (all else constant):

• FIFO firms have lower debt to equity ratios than LIFO firms do because stockholder's equity is higher and debt is constant.
• LIFO firms have lower gross profit margins ((Sales-COGS)/Sales) because the more expensive last purchases are assigned to COGS, lowering the numerator.

honeycfa

Jefferson Corp. decided to change its inventory valuation method from first in, first out (FIFO) to last in, first out (LIFO) in a period of rising prices. What was the result of the change for the ending inventory and net income?

Ending Inventory

Net Income

A) Increases Increases

B) Decreases Increases

C) Decreases Decreases

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LIFO provides the lowest inventory values and the lowest net income under rising prices because the least expensive purchases are left in inventory and the more expensive purchases flow to cost of goods sold (COGS) which lowers net income.

honeycfa

Which of the following statements is least accurate?

A) In a period of rising prices, LIFO gives the best COGS, whereas FIFO gives the best inventory balance on the balance sheet.

B) LIFO produces a tax benefit in a period of rising prices, therefore results in higher cash flows than FIFO.

C) In a period of rising prices, FIFO gives the best COGS, whereas LIFO gives the best inventory balance on the balance sheet.

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If prices are rising steadily, FIFO inventory is valued at the more recent purchase prices which are higher and provide a better estimate of the replacement value of the inventory. LIFO costing will produce a cost of goods sold much closer to replacement cost which provides a better estimate than using FIFO.

honeycfa

Which accounting methods are preferable for income statements and balance sheets?

A) Last in, first out (LIFO) for the balance sheet and first in, first out (FIFO) for the income statement.

B) First in, first out (FIFO) for both income statements and balance sheets.

C) Last in, first out (LIFO) for income statements and first in, first out (FIFO) for the balance sheet.

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LIFO allocates the most recent prices to the cost of goods sold and provides a better measure of current income. For balance sheet purposes, inventories based on FIFO are preferable since these values most closely resemble current cost and economic value.

honeycfa

Assuming inventory levels remain constant during the year and prices have been stable over time, COGS would be:

A) higher under LIFO than FIFO or average cost.

B) higher under the average cost than LIFO or FIFO.

C) the same for both LIFO and FIFO.

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During stable prices inventory levels are the same for both LIFO and FIFO.

honeycfa

During inflationary periods, which of the following statements is TRUE?

A) LIFO will generate higher earnings, but lower after tax cash flows.

B) FIFO will generate higher earnings, but lower after tax cash flows.

C) LIFO will generate lower earnings, but lower after tax cash flows.

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During inflation, FIFO will generate higher earnings because cost of goods will be lower than if LIFO was used. However, LIFO will generate higher cash flows since cash outflows for taxes will be lower for LIFO.

honeycfa

Which is the preferred inventory method for purposes of analysis and which is the preferred method for reporting cost of goods sold?

Inventory Analysis

COGS

A) LIFO FIFO

B) LIFO LIFO

C) FIFO LIFO

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                 FIFO                         LIFO

                                                           

 Best---->\\     Inv    /                \\  COGS  / <--- Best

               \\ COGS  /                   \\   Inv   /

                                                        

honeycfa

During periods of rising prices and stable or growing inventories, the most informative inventory accounting method for income statement purposes is:

A) LIFO because it allocates current prices to cost of good sold (COGS) and provides a better measure of current income.

B) weighted average because it allocates average prices to cost of good sold (COGS) and provides a better measure of current income.

C) FIFO because it allocates historical prices to cost of good sold (COGS) and provides a better measure of current income.

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LIFO is the most informative inventory accounting method for income statement purposes in periods of rising prices and stable or growing inventories. It allocates the most recent purchase prices to COGS, and thus provides a better measure of current income and future profitability.

honeycfa

For balance sheet purposes, inventories based on:

A) FIFO are preferable to those based on LIFO, as they more closely reflect current costs.

B) LIFO are preferable to those based on FIFO, as they more closely reflect the current costs.

C) LIFO are preferable to those based on average cost, as they more closely reflect the current costs.

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The inventories based on FIFO are preferable to those presented under LIFO or average cost for balance sheet purposes. Under FIFO, the older inventories are taken out first, and the ending inventory balance consists of the recent purchases and thus most closely reflect the current (economic) value.