Question

Use the data in Exercise 5-3 to prepare comparative income statements for the month of January for Laker Company similar to those shown in Exhibit 5.8 for the four inventory methods. Assume expenses are $1,250 and that the applicable income tax rate is 40%. (Round amounts to cents.)

3. If costs were rising instead of falling, which method would yield the highest net income?

Short answer

The FIFO inventory valuation method will give higher net income when the prices rise.

Step-by-step solution

Definition of Deflation

An economic situation of the country under which the price level of the goods declines is known as deflation. Such a situation arises when the country’s inflation rate is 0%.

Higher Net income under Rising Prices

Under rising prices, the FIFO method will give the highest net income because the lower initial prices incurred in inventory acquisition will be allocated to the cost of goods sold.