Question

Richardson Company cans a variety of vegetable-type soups. Recently, the company decided to value its inventories using dollar-value LIFO pools. The clerk who accounts for inventories does not understand how to valuethe inventory pools using this new method, so, as a private consultant, you have been asked to teach him how this new method works.

He has provided you with the following information about purchases made over a 6-year period.

Ending Inventory

Date (End-of-Year Prices) Price Index

Dec. 31, 2013 $ 80,000 100

Dec. 31, 2014 111,300 105

Dec. 31, 2015 108,000 120

Dec. 31, 2016 128,700 130

Dec. 31, 2017 147,000 140

Dec. 31, 2018 174,000 145

You have already explained to him how this inventory method is maintained, but he would feel better about it if you were to leavehim detailed instructions explaining how these calculations are done and why he needs to put all inventories at a base-year value.

Instructions

(a) Compute the ending inventory for Richardson Company for 2013 through 2018 using dollar-value LIFO.

(b) Using your computation schedules as your illustration, write a step-by-step set of instructions explaining how the calculationsare done. Begin your explanation by briefly explaining the theory behind this inventory method, includingthe purpose of putting all amounts into base-year price levels.

Short answer

The ending inventory at dollar value LIFO comes out to be $132,350. There are five basic steps to compute the dollar-value LIFO.

Step-by-step solution

Computation of ending inventory based on base year prices

Date	Ending inventory at current year prices	/	Price index	=	Ending inventory ay base year prices
Dec 31, 2013	$80,000	/	100	=	$80,000
Dec 31, 2014	$111,300	/	105	=	$106,000
Dec 31, 2015	$108,000	/	120	=	$90,000
Dec 31, 2016	$128,700	/	130	=	$99,000
Dec 31, 2017	$147,000	/	140	=	$105,000
Dec 31, 2018	174.000	/	145	=	$120,000

Computation of ending inventory at dollar value LIFO

Date	Inventory at base year	Layer	X	Price Index	=	Dollar value LIFO
Dec 31, 2013	$80,000	$80,000	X	100	=	$80,000
Dec 31, 2014	$90,000	$10,000	X	105	=	$10,500
Dec 31, 2015	-	-	-	-	-	-
Dec 31, 2016	$99,000	$9,000	X	130	=	$11,700
Dec 31, 2017	$105,000	$6,000	X	140	=	$8400
Dec 31, 2018	$120,000	$15,000	X	145	=	$21,750
	Total	$120,000				$132,350

Ending inventory at dollar value, LIFO comes out to be $132,350.

Stepwise instruction

Generally, several inventories are purchased during a given period at different points of time for different prices. So the basic problem arises at which price should the inventories be valued for computing COGS and ending inventory. For this purpose, different inventory methods have been adopted based on the assumption that inventories are used on FIFO or LIFO basis or are valued at average cost.

The LIFO basis tackles the issue of LIFO liquidation, which is derived by leaving the earliest inventory unsold due to following the last in first out sequence. In order to resolve this purpose, a new approach has been adopted to value the LIFO-based inventory on the base year prices. That is also called dollar-value LIFO inventory.

The steps to calculate the dollar value of LIFO are as follows –

a) The first step is to convert the ending inventory at current prices to the inventory at base prices. This is done by multiplying the ending inventory at the current price to the price index.

b) Once the ending inventory at base prices is determined, the next step is to compute the added layers in the given years. A layer is a difference between the ending and beginning inventory at base-year prices. The layer is computed for each given year. For the base year, the layer would be the same as the ending balance.

c) If the layer has a negative value for any year, that layer would be adjusted with the most recent layers, and the final layer would be treated for all the years until the year which has a negative layer.

d) In the next step, all the computed layers are converted into the current year dollar value by taking the product of layer and price index for every year.

e) In the last step, the dollar value LIFO is computed by taking the sum of all layers at the dollar value LIFO base.