Question

An executive in a merchandising company receives an annual bonus equal to 5% of net income. Historically, the company has calculated cost of goods sold and ending inventory using LIFO and has maintained 30,000 of units in inventory for the last ten years. The executive is recommending the company reduce the number of units in year-end inventory to 1,000. Over the ten-year period, the cost per unit of inventory has increased from $60 per unit to $110 per unit.

Respond to the following in a minimum of 175 words:

In what ways would a reduction in inventory help the company?

In what ways would the change from LIFO to FIFO help the executive personally?

Would you approve the proposal to move from LIFO to FIFO? Why, or why not?

Answer 1

The last in first out method of calculation of inventory told us to the inventory purchased at last should be sold first. These method is quite popular for saving taxes by reducing the income. if the inventory purchased at last is of high cost the amount to be recorded as per these method is high in income statement. so it will reduced the profitability of the income statement. since it has been noticed that cost per inventory has increases to $110 from $60. it means that it is highly hitting the income statement of the company. so reducing the inventory helps the company in maintaining high profit and to improve market conditions as profit increases due to corresponding effect of charging lower expenses which may attract the outsiders investors. And the company working capital is also increases by reduction in purchase of the inventory. As prices of the inventory going high at that time.so company need higher amount for purchasing the inventory so by reducing the inventory overall helps the company in increasing income and maintaining good working capital for the business.

The lifo methods as discussed above tells us that to sell the inventory which is purchases at latest, On the other side fifo method tells us that to sells the inventory first that is purchased at first should be sell first. In these question as we seen the price of the inventory that is purchased latest is $110 and the inventory purchases at the first is $60. Inventory is reported under the income statement if it is reported as per lifo the income of the comany reduces due to the high cost of the inventory. if it is to be reported as per the lifo the income of the company is increases as the cost of the inventory purchases at the first is low. The bous  of the excecutive is based on the iincome of the company. so if company adopts lifo method it is indirectly increases the income of the compay which directly increases the bonus of the excecutive as it is based on net income. so lifo method is quite good for excecutive of the company.

The lifo and fifo methods has thier own pros and cons. The adpotion of both the method is varied company to company and industry to industry. since the company are in the business of selling the merchandising the lifo method is good for the company as the people will prefer to purchase latest arrivales. and at the same if the company has good market and earning good profit and want to save taxes it ls preferable to adobt lifo and not to convert into lifo method of accounting. At the same time if we see from different angles if the old stock is more in the company it is preferable to convert to fifo method as if the old stock is remain idle in the stocck it will obsolete and will not be good for the comoany and may bring huge losses due to the obsolete of the inventory.so conclusion is that if there is no much old inventory is lying in the stock and sales of the company is high and want to save taxes company will prefer lifo. And if old inventory in the stock is high and sales is not much the company must convert it self into fifo method.