Users of financial statements rely on the information available to them to decid

Question

Users of financial statements rely on the information available to them to decide whether to invest in a company or lend it money. As an investor, you are comparing three companies in the same industry. I he cost to purchase inventory is rising in the industry. Assume that all expenses incurred by the three companies arc the same except for cost of goods sold. The companies use the following methods to value ending inventory: The following highly condensed income statements and balance sheets. are available for Budget Stores for a two-year period. (All amounts are stated in thousands of dollars)

Explanation / Answer

1. Company B following FIFO method would report the highest net income, because its cost of goods will be lesser as compared to other companies as prices are rising it would assume goods bought first are sold first so goods bought at lesser prices would be sold and goods bought in the end at higher prices would be remain in inventory.

2. Company C following LIFO method pay the least amount of taxes because following LIFO it would assume goods bought last (at higher prices) are sold first thus increasing the cost of goods sold and thereby decresing the profits.

3. For the investor if prices are rising in the industry FIFO method would give a better indication of the value of ending inventory (on the balance sheet) as it would reflect the inventory at current prices.

4. If the prices are decreasing then Company C following LIFO would report highest net income due to lower cost of goods sold and Company B following FIFO would pay the minimum taxes because of higher cost of goods sold

Related Questions

Navigate

• Browse (All)
• Browse U
• Subjects

---

---

Integrity-first tutoring: explanations and feedback only — we do not complete graded work. Learn more.