Question 1

The formula to convert the cost of goods sold under LIFO to an estimate of the cost of goods sold under FIFO is: Cost of goods sold LIFO - increase in LIFO reserve = cost of goods sold FIFO.

Accepted Answer

This is a correct formula for converting the cost of goods sold under LIFO to an estimate of the cost of goods sold under FIFO. It involves subtracting the increase in the LIFO reserve from the cost of goods sold under LIFO.

Question 2

Under GAAP,current cost (replacement cost)accounting may be used at the discretion of management.

Accepted Answer

Under GAAP (Generally Accepted Accounting Principles), historical cost accounting is the primary valuation method, not current cost (replacement cost) accounting. Replacement cost accounting is not generally permitted for the initial recording of assets and their subsequent measurement in financial statements.

Question 3

The primary difference between FIFO and LIFO is that each method makes a different choice regarding which financial statement element is shown at the out-of-date cost.

Accepted Answer

FIFO (First In, First Out) assumes that the first units purchased are the first ones sold, meaning that the cost of goods sold reflects the current cost of inventory. LIFO (Last In, First Out) assumes the opposite, that the most recently purchased units are the first ones sold, meaning that the cost of goods sold reflects older, lower costs. Therefore, each method makes a different choice regarding which financial statement element (inventory) is shown at the out-of-date cost.

Question 4

The LIFO reserve disclosure was intended to remedy the difficulty investors face when trying to compare LIFO versus FIFO firms in a meaningful manner.

Accepted Answer

The LIFO reserve disclosure was indeed intended to help investors compare LIFO versus FIFO firms in a meaningful manner by providing information about the difference in the value of inventory between the two methods. This allows for better analysis and understanding of a company's financial statements.

Question 5

Current cost (replacement cost)accounting is preferred by the FASB because it records holding gains on financial statements as they arise.

Accepted Answer

Current cost accounting is not preferred by the FASB because it does not record holding gains on financial statements as they arise. Instead, the FASB prefers fair value accounting, which does record holding gains as they occur.

Question 6

The SEC requires that the 10-K report disclose the dollar impact of LIFO liquidation whenever it occurs.

Accepted Answer

The answer of The SEC requires that the 10-K report...

Question 7

FIFO charges the newest costs against revenues on the income statement thus matching the current cost of replacing the units with current revenues.

Accepted Answer

FIFO (First In, First Out) charges the oldest costs against revenues on the income statement, not the newest costs. This means it matches the cost of the earliest purchased or manufactured units with current revenues, not the cost of replacing the units with current costs.

Question 8

By charging the oldest costs to the income statement,FIFO automatically includes in income the holding gain on the unit that was sold.

Accepted Answer

FIFO (First-In, First-Out) assumes that the goods that are sold are those that were purchased first, meaning that the cost of the goods sold comes from the oldest inventory. This means that any remaining inventory will be comprised of more recent and presumably higher-cost items. Therefore, when lower cost goods are sold, the income statement will reflect a higher profit margin, which includes the holding gain on the units sold.

Question 9

Some analysts argue that by merging current cost profits and realized holding gains,LIFO gives misleading signals about the sustainable operating profits of the company.

Accepted Answer

The answer of Some analysts argue that by merging current...

Question 10

The SEC rule (Regulation S-X)requires firms to disclose "the excess of replacement cost or current cost over stated LIFO value ..." rather than the difference between inventory book value at LIFO and inventory book value at FIFO.

Accepted Answer

The statement correctly describes the SEC rule (Regulation S-X) that requires disclosure of the excess of replacement cost or current cost over stated LIFO value. It does not require firms to disclose the difference between inventory book value at LIFO and inventory book value at FIFO.

Question 11

The LIFO-to-FIFO adjustment for a company that uses LIFO for only a portion of its inventory is different from the method used when a company uses LIFO for its entire inventory.

Accepted Answer

The answer of The LIFO-to-FIFO adjustment for a company that...

Question 12

Firms that use LIFO must disclose the dollar magnitude of the difference between LIFO and FIFO cost.

Accepted Answer

This disclosure is required under accounting standards to provide users of financial statements with a better understanding of the impact of LIFO on inventory valuation and the company's financial performance.

Question 13

LIFO can be applied on either a periodic or perpetual basis.However,using the perpetual method defeats the purpose of LIFO.

Accepted Answer

LIFO is usually applied on a periodic basis, which means that the cost of goods sold and the value of ending inventory are calculated at the end of the accounting period when a physical inventory count is taken. However, if a company uses the perpetual method, it will continuously update the inventory records every time a purchase or sale is made, making it difficult to keep track of the true order in which the goods were sold. This defeats the purpose of LIFO, which assumes that the most recent units purchased are the first to be sold, as it is not possible to accurately determine which units were actually sold.

Question 14

For ratio analysis,a distortion in the current ratio under LIFO inventory costing may be adjusted by subtracting the LIFO reserve from current assets.

Accepted Answer

The adjustment for a distortion in the current ratio under LIFO inventory costing involves adding the LIFO reserve to current assets, not subtracting it, to better reflect the current cost of inventory.

Question 15

Under either LIFO or FIFO it is impossible to simultaneously reflect both the balance sheet inventory and cost of goods sold at current cost.

Accepted Answer

Both LIFO and FIFO assume that the cost of earlier purchases (under FIFO) or recent purchases (under LIFO) are representative of the cost of the inventory sold. This means that the cost of goods sold figure will not reflect current costs if the inventory is valued using either method. Similarly, the balance sheet inventory figure will also not reflect current costs, as it will be based on the cost of the oldest inventory under FIFO or the cost of the most recent inventory under LIFO. Therefore, it is impossible to reflect both the balance sheet inventory and cost of goods sold at current cost under either method.

Question 16

When a LIFO firm liquidates old LIFO layers,the net income number under LIFO can be seriously distorted because the older costs in the LIFO layers that are liquidated are matched against sales dollars that are stated at higher current prices.

Accepted Answer

When a LIFO firm liquidates old LIFO layers, the net income number under LIFO can be seriously distorted because the older costs in the LIFO layers that are liquidated are matched against sales dollars that are stated at higher current prices. This is because LIFO (last-in, first-out) assumes that the most recent inventory items purchased or produced are the first sold or used, which means that the oldest (and often lower-cost) inventory layers remain on the balance sheet. When these old LIFO layers are liquidated or sold, they may have a lower cost than the current market value, resulting in a higher gross profit and net income, which can be misleading for financial analysis and decision-making.

Question 17

As LIFO layers are liquidated,inventory holding gains that were previously ignored are recognized in the period of liquidation.

Accepted Answer

This statement is true. When LIFO layers are liquidated, the inventory that is being sold was typically acquired at a lower cost than current inventory prices. This means that the cost of goods sold is lower, and as a result, the profit margin is higher. These gains in holding inventory are recognized and accounted for in the period of liquidation.

Question 18

When purchases and sales occur continuously,the most recently incurred costs will be virtually identical to current replacement cost so LIFO provides a good match between current costs and current revenues.

Accepted Answer

LIFO (Last-In, First-Out) assumes the most recent costs are the first to be used in cost of goods sold, aligning closely with current replacement costs and providing a better match with current revenues.

Question 19

GAAP prescribes a standardized format for disclosing the LIFO reserve.

Accepted Answer

GAAP (Generally Accepted Accounting Principles) does not prescribe a standardized format for disclosing the LIFO (Last In, First Out) reserve; however, it does require disclosure of the method used to determine the cost of inventory and the effects of using LIFO.

Question 20

A recent survey of companies indicated that the specific identification method of inventory accounting is the most prevalent.

Accepted Answer

While the specific identification method may be used by some companies, it is not necessarily the most prevalent. The most commonly used methods of inventory accounting include first-in, first-out (FIFO), last-in, first-out (LIFO), and weighted average. The prevalence of each method may vary depending on the industry and company size.

Quiz 9: Inventories