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Chapter 4: 3DQ (page 405)

With inflation, what are the implications of using LIFO and FIFO inventory methods? How do they affect the cost of goods sold?

Short Answer

Expert verified

Due to higher new inventory costs in an inflationary climate, the current COGS under LIFO would be higher. The business would report lower earnings or net income due to the period.

Step by step solution

01

Implication of FIFO

FIFO (or First-in, First Out) will give higher profit margins in an inflationary period. The cost of newer goods will be higher than that of older goods鈥攖hat's why selling off older low-cost goods first will give a higher profit.

02

Implication of LIFO

The last-in, first-out (LIFO) method of tax accounting for inventories is advantageous in an inflationary economy because it enables a taxpayer to compute a higher cost of goods sold deduction by using an inflated current cost instead of a lower cost of goods sold deduction based on the lower historical cost

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Most popular questions from this chapter

Murray Motor Company wants you to calculate its cost of common stock. During the next 12 months, the company expects to pay dividends (D1) of \(2.50 per share, and the current price of its common stock is \)50 per share. The expected growth rate is 8 percent.

a. Compute the cost of retained earnings (Ke). Use Formula 11-5.

b. If a $3 flotation cost is involved, compute the cost of new common stock (Kn). Use Formula 11-6.

If inflationary expectations increase, what is likely to happen to the yield to maturity on bonds in the marketplace? What is also likely to happen to the price of bonds?

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The Pan American Bottling Co. is considering the purchase of a new machine that would increase the speed of bottling and save money. The net cost of this machine is \(60,000. The annual cash flows have the following projections:

Year

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1

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2

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5

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