Question

Question: BTN 5-4 You are a financial adviser with a client in the wholesale produce business that just completed its first year of operations. Due to weather conditions, the cost of acquiring produce to resell has escalated during the later part of this period. Your client, Javonte Gish, mentions that because her business sells perishable goods, she has striven to maintain a FIFO flow of goods. Although sales are good, the increasing cost of inventory has put the business in a tight cash position. Gish has expressed concern regarding the ability of the business to meet income tax obligations.

Required

Prepare a memorandum that identifies, explains, and justifies the inventory method you recommend your client, Ms. Gish, adopt.

Short answer

Answer

The business entity mustuse the LIFO method and purchase inventory on credit.

Step-by-step solution

Definition of Inventory Costing

The method that determines the inventory value by allocating the cost of the latest inventory to the cost of goods sold is known as LIFO (last in, first out).

Memorandum

To: Javonte Gish

From: Financial adviser

Subject: Inventory Method

The business entity is in a tight cash position because of the increasing sale cost and is concerned about meeting the income tax obligations. In such a situation, the business entity can adopt the following procedures:

1. Purchase inventory on credit.
2. Use the LIFO method.

By purchasing inventory on credit terms, the business entity will be able to maintain cash in the business entity. While using the LIFO method, the business entity will report a higher amount for the cost of goods sold than using the FIFO method. Therefore, operating profit will reduce. The reduced operating profit will lower the tax liability of the business entity.