a firm switches from lifo to fifo during a period of rising prices. Explain clearly which...

a firm switches from lifo to fifo during a period of rising prices. Explain clearly which income statement and balance sheet items will be impacted by this switch and why?

Expert Solution

FIFO Method

If FIFO method used for inventory valuation, the goods dispose in the order of goods are purchased. Hence the inventory cost at the end of year will be from the latest purchase.

LIFO Method

If LIFO method used for inventory valuation, the goods dispose from the latest purchase. Hence the inventory cost at the end of year will be from the earliest purchase.

Use of FIFO method during inflation:

When FIFO method is used during the period of inflation, the earlier unit cost is lower than the more recent unit cost. Thus, FIFO show a larger gross profit. However, the inventory must be replaced at a price higher than indicated by the cost of merchandise sold.

Use of LIFO method during inflation:

When LIFO method is used during the period of inflation, the LIFO will yield a higher amount of the cost of merchandise sold, lower amount of gross profit, and lower amount of inventory at the end of the period.

Impact on income statement – switching from LIFO to FIFO:

Therefore, from the above explanation the following items will impact on income statement.

Cost of merchandise sold decrease.
Gross profit increase.
Net profit increase.
Expense of income tax increase.

Impact on balance sheet – switching from LIFO to FIFO:

Therefore, from the above explanation the following items will impact on balance sheet.

Inventory cost increase.
Net worth increase.

ekkarill92 answered 2 years ago

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