Question

Identify the inventory costing method best described by each of the following separate statements. Assume a period of increasing costs.

1. Mimics the actual flow of inventory for most businesses.

2. Cost of goods sold approximates its current cost.

3. Precisely matches the costs of items with the revenues they generate.

4. Yields the lowest net income.

5. Has the lowest tax expense because of reporting the lowest net income.

OPTIONS: WEIGHTED AVERAGE, SPECIFIC IDENTIFICATION, FIFO, OR LIFO

Answer 1

• 1. Mimics the actual flow of inventory for most businesses.
  Answer = FIFO Method. This is because for both businesses, products are sold in the series they were purchased or produced, that is, first produced or purchased are sold first.
• 2. Cost of goods sold approximates its current cost.
  Answer: LIFO Method
  This is because under Last in First Out method, the cost of goods sold is based on the last (or latest) purchase cost price which is equivalent ti current cost prevailing.
• 3. Precisely matches the costs of items with the revenues they generate.
  Answer: Specific Identification Method
  This is because units sold have their actual specific cost recognised at which these were purchased.
• 4. Yields the lowest net income.
  Answer: LIFO method, because the ending inventory is valued at earliest prices. Under period of rising cost, the earlier prices would have been low, hence value of ending inventory would be low, and cost of goods sold with be high. Higher cost of goods sold = lower net income.
• 5. Has the lowest tax expense because of reporting the lowest net income.
  Answer: LIFO Method, for the same reason mentioned in Answer #4