Question

Umbrella Corp uses LIFO method to report inventory. Inventory at the beginning of the year consisted of 10,000 units of the company's one product for $15 each. During the year:

60,000 units were purchased at the cost of $18 each.

64,000 units were sold.

Near the end of the fiscal year, management is considering purchasing an additional 5,000 units at $18.

What would the effect of this purchase be on income before taxes?

Would the answer be the same if the company used FIFO instead of LIFO?

Note: please provide your answer and explanations on a Word or Excel sheet as hand writing is difficult to read. I would appreciate it.

Answer 1

LIFO method
date	purchase			cost of merchandise sold			balance in inventory
	units	unit cost	total	units	unit cost	total	units	unit cost	total
	-	-	-	-	-	-	10,000	15	1,50,000
	60,000	18	10,80,000				10,000	15	1,50,000
							60,000	18	10,80,000
	-	-	-	60,000	18	10,80,000
				4,000	15	60,000	6,000	15	90,000
	5,000	18	90,000	-	-	-	6,000	15	90,000
							5,000	18	90,000
	65,000		11,70,000	64,000		11,40,000	11,000		1,80,000

Effect of last purchase (5,000 units) on income before tax

Cost of goods sold = opening stock + purchase – closing stock

                                  = 150,000 +11,70,000 – 180,000

                                  = 11,40,000

If last purchase of 5,000 units is not made, then

Cost of goods sold = opening stock + purchase – closing stock

                                  = 150,000 +10,80,000 – 90,000

                                  = 11,40,000

Hence, last purchase will not affect any to income before tax

FIFO method
date	purchase			cost of merchandise sold			balance in inventory
	units	unit cost	total	units	unit cost	total	units	unit cost	total
	-	-	-	-	-	-	10,000	15	1,50,000
	60,000	18	10,80,000				10,000	15	1,50,000
							60,000	18	10,80,000
	-	-	-	10,000	15	1,50,000
				54,000	18	9,72,000	6,000	18	1,08,000
	5,000	18	90,000	-	-	-	6,000	18	1,08,000
							5,000	18	90,000
	65,000		11,70,000	64,000		11,22,000	11,000		1,98,000

Effect of last purchase (5,000 units) on income before tax

Cost of goods sold = opening stock + purchase – closing stock

                                  = 150,000 +11,70,000 – 198,000

                                  = 11,22,000

If last purchase of 5,000 units is not made, then

Cost of goods sold = opening stock + purchase – closing stock

                                  = 150,000 +10,80,000 – 108,000

                                  = 11,22,000

Hence, last purchase will not affect any to income before tax