Question

Wilkens Company uses the LIFO method for inventory costing. In an effort to lower net income, company president Mike Wilkens tells the plant accountant to take the unusual step of recommending to the purchasing department a large purchase of inventory at year-end. The price of the item to be purchased has nearly doubled during the year,and the item represents a major portion of inventory value.

Instructions

Answer the following questions.

(a) Identify the major stakeholders. If the plant accountant recommends the purchase, what are the consequences?

(b) If Wilkens Company were using the FIFO method of inventory costing, would Mike Wilkens give the same order? Whyor why not?

Short answer

Major stakeholders are – Wilkens Company, purchasing department, and the suppliers. Under the FIFO method, inventory would be purchased in inflationary conditions.

Step-by-step solution

Major stakeholders

As the transaction is related to the procurement of inventory, the major stakeholders in this case are –

a) Wilkens company – it is the main party who is procuring the goods in its name

b) Purchasing department – it is the stakeholder as it is the main decision-maker, and the decision to buy inventory would affect the financial performance.

c) Suppliers – Suppliers are the third main stakeholders as they would be claiming the amount on the company for providing inventory.

If the plant accountant decides to purchase the inventory, there would be an increase in the cost of goods sold because of the rising prices. It would also increase the ending inventory cost. But the degree to which CPGS and ending inventor increase would mainly depend upon the inventory valuation method.

Using the FIFO method of inventory

If the FIFO method is used, the COGS would be valued at the earliest inventory purchased. In this case, the rising prices would not affect the COGS value very much, and the gross income would also not be affected by inflation. Thus mike can give the order for procuring more inventory in this case. Such a decision would value the ending inventory at the inflationary prices on the balance sheet.