Question

1. Why are different inventory cost methods used in regards to cost flow and goods flow?

Answer 1

Different methods of costs flow is necessitated by various financial implications such as   costs of goods sold , that has a direct bearing on the income /loss of the period & ending inventory that is carried in the balance sheet , which are used to calculate and compare various metrics, by a variety of users of the company's financial statements.

As for example, in   inflationary times ie. with rising prices, FIFO cost-flow is bound to produce the highest $ income--as goods purchased first at lowest costs are deemed sold first which is charged as expense against the period's sales.Consequently, the last bought goods with higher costs remain in the inventory account ,oosting teh current asset as well as teh current ratio figure. Also,as lower costs are charged to the income statement, net income will be more.

Exactly opposite , are the effects, if LIFO cost flow is adopted by a company--ie. COGS is high, so net income is less & ending inventory ,is less at old prices.

All the above effects under weighted average or average cost flow assumptions , are in-between the FIFO & LIFO cost-flow assumptions.

Thus, cost flow assumptions , that is ,the decision to attach which values , to the goods sold & ending inventory --- depend son various factors such as norms in the industry, peer-group actions, companypolicy, nature of goods sold, condition in the general economy, financial necessities of teh company & the like.

But mostly, once chosen, most of the companies stick to it, without frequent changes---- which need to be disclosed , as foot notes to the accounts , in the published financial statements.

All said about costs flow, physical flow of goods is only the timing of the particular lot's movement outside as sales to customers.

The vendor would only like to sell his old goods first whereas, the buyer will want the latest product.

So, the physical flow of goods , FIFO/LIFO happens at the time of business --it has nothing to do with cost flow assumptions.

At the maximum, goods with specific identity , such as made-to-order jobs, can be matched with costs .