Question

Case 3: The Kroger Company

The Kroger Company reported the following data in its annual report (in millions).

January 31, February 1, February 2,

2015 2014 2013

Net sales \(108,465 \)98,375 $96,619

Cost of sales (using LIFO) 85,512 78,138 76,726

Year-end inventories using FIFO 6,933 6,801 6,244

Year-end inventories using LIFO 5,688 5,651 5,146

Instructions

(a) Compute Kroger’s inventory turnovers for fiscal years ending January 31, 2015, and February 1, 2014, using:

(1) Cost of sales and LIFO inventory.

(2) Cost of sales and FIFO inventory.

(b) Some firms calculate inventory turnover using sales rather than cost of goods sold in the numerator. Calculate Kroger’s fiscal years ending January 31, 2015, and February 1, 2014, turnover, using:

(1) Sales and LIFO inventory.

(2) Sales and FIFO inventory.

(c) State which method you would choose to evaluate Kroger’s performance. Justify your choice.

Short answer

Inventory turnover using the Cost of sale

Against LIFO Inventory 15.08

Against FIFO Inventory 14.47

Inventory turnover using Sales

Against LIFO Inventory 12.45

Against FIFO Inventory 11.98

Preferred method of analysis - Using the cost of sale is the preferred way of computing inventory turnover.

Step-by-step solution

Inventory turnover ratio using the cost of sale

1) Cost of sale and LIFO inventory

$\begin{array}{c}\mathbf{Average}\mathbf{}\mathbf{Inventory}\mathbf{\left(}\mathbf{2015}\mathbf{\right)}\mathbf{=}\frac{\mathbf{Ending}\mathbf{}\mathbf{Inventory}\mathbf{\left(}\mathbf{LIFO}\mathbf{2015}\mathbf{\right)}\mathbf{+}\mathbf{Ending}\mathbf{}\mathbf{Inventory}\mathbf{\left(}\mathbf{LIFO}\mathbf{2014}\mathbf{\right)}}{\mathbf{2}}\\ \mathbf{=}\frac{\mathbf{\$}\mathbf{5688}\mathbf{+}\mathbf{\$}\mathbf{5651}}{\mathbf{2}}\\ \mathbf{=}\frac{\mathbf{\$}\mathbf{11339}}{\mathbf{2}}\\ \mathbf{=}\mathbf{\$}\mathbf{5}\mathbf{,}\mathbf{669}\mathbf{.}\mathbf{5}\end{array}$

role="math" localid="1648815664029" $\begin{array}{c}\mathbf{Inventory}\mathbf{}\mathbf{Turnover}\mathbf{}\mathbf{ratio}\mathbf{\left(}\mathbf{2015}\mathbf{\right)}\mathbf{=}\frac{\mathbf{Cost}\mathbf{}\mathbf{of}\mathbf{}\mathbf{sale}\mathbf{\left(}\mathbf{2015}\mathbf{\right)}}{\mathbf{Average}\mathbf{}\mathbf{Inventory}\mathbf{}\mathbf{2015}\mathbf{\left(}\mathbf{LIFO}\mathbf{\right)}}\\ \mathbf{=}\frac{\mathbf{\$}\mathbf{85}\mathbf{,}\mathbf{512}}{\mathbf{\$}\mathbf{5}\mathbf{,}\mathbf{669}\mathbf{.}\mathbf{5}}\\ \mathbf{=}\mathbf{15}\mathbf{.}\mathbf{08}\end{array}$

role="math" localid="1648815896567" $\begin{array}{c}\mathbf{Average}\mathbf{}\mathbf{Inventory}\mathbf{}\mathbf{\left(}\mathbf{2014}\mathbf{\right)}\mathbf{=}\frac{\mathbf{Ending}\mathbf{}\mathbf{Inventory}\mathbf{\left(}\mathbf{LIFO}\mathbf{2014}\mathbf{\right)}\mathbf{+}\mathbf{Ending}\mathbf{}\mathbf{Inventory}\mathbf{\left(}\mathbf{LIFO}\mathbf{2013}\mathbf{\right)}}{\mathbf{2}}\\ \mathbf{=}\frac{\mathbf{\$}\mathbf{5}\mathbf{,}\mathbf{651}\mathbf{+}\mathbf{\$}\mathbf{5}\mathbf{,}\mathbf{146}}{\mathbf{2}}\\ \mathbf{=}\frac{\mathbf{\$}\mathbf{10}\mathbf{,}\mathbf{797}}{\mathbf{2}}\\ \mathbf{=}\mathbf{\$}\mathbf{5}\mathbf{,}\mathbf{398}\mathbf{.}\mathbf{5}\end{array}$

$\begin{array}{c}\mathbf{Inventory}\mathbf{}\mathbf{Turnover}\mathbf{}\mathbf{ratio}\mathbf{\left(}\mathbf{2014}\mathbf{\right)}\mathbf{=}\frac{\mathbf{Cost}\mathbf{}\mathbf{of}\mathbf{}\mathbf{sale}\mathbf{\left(}\mathbf{2014}\mathbf{\right)}}{\mathbf{Average}\mathbf{}\mathbf{Inventory}\mathbf{}\mathbf{2014}\mathbf{\left(}\mathbf{LIFO}\mathbf{\right)}}\\ \mathbf{=}\frac{\mathbf{\$}\mathbf{78}\mathbf{,}\mathbf{138}}{\mathbf{\$}\mathbf{5}\mathbf{,}\mathbf{398}\mathbf{.}\mathbf{5}}\\ \mathbf{=}\mathbf{14}\mathbf{.}\mathbf{47}\end{array}$

2) Cost of sale and FIFO inventory

$\begin{array}{c}\mathbf{Average}\mathbf{}\mathbf{Inventory}\mathbf{\left(}\mathbf{2015}\mathbf{\right)}\mathbf{=}\frac{\mathbf{Ending}\mathbf{}\mathbf{Inventory}\mathbf{\left(}\mathbf{FIFO}\mathbf{2015}\mathbf{\right)}\mathbf{+}\mathbf{Ending}\mathbf{}\mathbf{Inventory}\mathbf{\left(}\mathbf{FIFO}\mathbf{2014}\mathbf{\right)}}{\mathbf{2}}\\ \mathbf{=}\frac{\mathbf{\$}\mathbf{6}\mathbf{,}\mathbf{933}\mathbf{+}\mathbf{\$}\mathbf{6}\mathbf{,}\mathbf{801}}{\mathbf{2}}\\ \mathbf{=}\frac{\mathbf{\$}\mathbf{13}\mathbf{,}\mathbf{734}}{\mathbf{2}}\\ \mathbf{=}\mathbf{\$}\mathbf{6}\mathbf{,}\mathbf{867}\end{array}$

$\begin{array}{c}\mathbf{InventoryTurnoverratio}\mathbf{\left(}\mathbf{2015}\mathbf{\right)}\mathbf{=}\frac{\mathbf{Costofsale}\mathbf{\left(}\mathbf{2015}\mathbf{\right)}}{\mathbf{AverageInventory}\mathbf{2015}\mathbf{\left(}\mathbf{FIFO}\mathbf{\right)}}\\ \mathbf{=}\frac{\mathbf{\$}\mathbf{85}\mathbf{,}\mathbf{512}}{\mathbf{\$}\mathbf{6}\mathbf{,}\mathbf{867}}\\ \mathbf{=}\mathbf{12}\mathbf{.}\mathbf{45}\end{array}$

$\begin{array}{c}\mathbf{Average}\mathbf{}\mathbf{Inventory}\mathbf{\left(}\mathbf{2014}\mathbf{\right)}\mathbf{=}\frac{\mathbf{Ending}\mathbf{}\mathbf{Inventory}\mathbf{\left(}\mathbf{FIFO}\mathbf{2014}\mathbf{\right)}\mathbf{+}\mathbf{Ending}\mathbf{}\mathbf{Inventory}\mathbf{\left(}\mathbf{FIFO}\mathbf{2013}\mathbf{\right)}}{\mathbf{2}}\\ \mathbf{=}\frac{\mathbf{\$}\mathbf{6}\mathbf{,}\mathbf{801}\mathbf{+}\mathbf{\$}\mathbf{6}\mathbf{,}\mathbf{244}}{\mathbf{2}}\\ \mathbf{=}\frac{\mathbf{\$}\mathbf{13}\mathbf{,}\mathbf{045}}{\mathbf{2}}\\ \mathbf{=}\mathbf{\$}\mathbf{6}\mathbf{,}\mathbf{522}\mathbf{.}\mathbf{5}\end{array}$

$\begin{array}{c}\mathbf{InventoryTurnover}\mathbf{}\mathbf{ratio}\mathbf{\left(}\mathbf{2014}\mathbf{\right)}\mathbf{=}\frac{\mathbf{Cost}\mathbf{}\mathbf{of}\mathbf{}\mathbf{sale}\mathbf{\left(}\mathbf{2014}\mathbf{\right)}}{\mathbf{Average}\mathbf{}\mathbf{Inventory}\mathbf{}\mathbf{2014}\mathbf{\left(}\mathbf{LIFO}\mathbf{\right)}}\\ \mathbf{=}\frac{\mathbf{\$}\mathbf{78}\mathbf{,}\mathbf{138}}{\mathbf{\$}\mathbf{6}\mathbf{,}\mathbf{522}\mathbf{.}\mathbf{5}}\\ \mathbf{=}\mathbf{11}\mathbf{.}\mathbf{98}\end{array}$

Inventory turnover ratio using sale

1) Sale and LIFO inventory

$\begin{array}{c}\mathbf{Average}\mathbf{}\mathbf{Inventory}\mathbf{\left(}\mathbf{2015}\mathbf{\right)}\mathbf{=}\frac{\mathbf{Ending}\mathbf{}\mathbf{Inventory}\mathbf{\left(}\mathbf{LIFO}\mathbf{2015}\mathbf{\right)}\mathbf{+}\mathbf{Ending}\mathbf{}\mathbf{Inventory}\mathbf{\left(}\mathbf{LIFO}\mathbf{2014}\mathbf{\right)}}{\mathbf{2}}\\ \mathbf{=}\frac{\mathbf{\$}\mathbf{5688}\mathbf{+}\mathbf{\$}\mathbf{5651}}{\mathbf{2}}\\ \mathbf{=}\frac{\mathbf{\$}\mathbf{11339}}{\mathbf{2}}\\ \mathbf{=}\mathbf{\$}\mathbf{5}\mathbf{,}\mathbf{669}\mathbf{.}\mathbf{5}\end{array}$

role="math" localid="1648817877902" $\begin{array}{c}\mathbf{InventoryTurnover}\mathbf{}\mathbf{ratio}\mathbf{\left(}\mathbf{2015}\mathbf{\right)}\mathbf{=}\frac{\mathbf{Sale}\mathbf{\left(}\mathbf{2015}\mathbf{\right)}}{\mathbf{Average}\mathbf{}\mathbf{Inventory}\mathbf{}\mathbf{2015}\mathbf{\left(}\mathbf{LIFO}\mathbf{\right)}}\\ \mathbf{=}\frac{\mathbf{\$}\mathbf{108}\mathbf{,}\mathbf{465}}{\mathbf{\$}\mathbf{5}\mathbf{,}\mathbf{669}\mathbf{.}\mathbf{5}}\\ \mathbf{=}\mathbf{19}\mathbf{.}\mathbf{13}\end{array}$

role="math" localid="1648817850209" $\begin{array}{c}\mathbf{Average}\mathbf{}\mathbf{Inventory}\mathbf{\left(}\mathbf{2014}\mathbf{\right)}\mathbf{=}\frac{\mathbf{Ending}\mathbf{}\mathbf{Inventory}\mathbf{\left(}\mathbf{LIFO}\mathbf{2014}\mathbf{\right)}\mathbf{+}\mathbf{Ending}\mathbf{}\mathbf{Inventory}\mathbf{\left(}\mathbf{LIFO}\mathbf{2013}\mathbf{\right)}}{\mathbf{2}}\\ \mathbf{=}\frac{\mathbf{\$}\mathbf{5}\mathbf{,}\mathbf{651}\mathbf{+}\mathbf{\$}\mathbf{5}\mathbf{,}\mathbf{146}}{\mathbf{2}}\\ \mathbf{=}\frac{\mathbf{\$}\mathbf{10}\mathbf{,}\mathbf{797}}{\mathbf{2}}\\ \mathbf{=}\mathbf{\$}\mathbf{5}\mathbf{,}\mathbf{398}\mathbf{.}\mathbf{5}\end{array}$

$\begin{array}{c}\mathbf{Inventory}\mathbf{}\mathbf{Turnover}\mathbf{}\mathbf{ratio}\mathbf{\left(}\mathbf{2014}\mathbf{\right)}\mathbf{=}\frac{\mathbf{Sale}\mathbf{\left(}\mathbf{2014}\mathbf{\right)}}{\mathbf{Average}\mathbf{}\mathbf{Inventory}\mathbf{}\mathbf{2014}\mathbf{\left(}\mathbf{LIFO}\mathbf{\right)}}\\ \mathbf{=}\frac{\mathbf{\$}\mathbf{98}\mathbf{,}\mathbf{375}}{\mathbf{\$}\mathbf{5}\mathbf{,}\mathbf{398}\mathbf{.}\mathbf{5}}\\ \mathbf{=}\mathbf{18}\mathbf{.}\mathbf{22}\end{array}$

2) Sale and FIFO inventory

$\begin{array}{c}\mathbf{Average}\mathbf{}\mathbf{Inventory}\mathbf{}\mathbf{\left(}\mathbf{2015}\mathbf{\right)}\mathbf{=}\frac{\mathbf{Ending}\mathbf{}\mathbf{Inventory}\mathbf{}\mathbf{\left(}\mathbf{FIFO}\mathbf{2015}\mathbf{\right)}\mathbf{+}\mathbf{Ending}\mathbf{}\mathbf{Inventory}\mathbf{}\mathbf{\left(}\mathbf{FIFO}\mathbf{2014}\mathbf{\right)}}{\mathbf{2}}\\ \mathbf{=}\frac{\mathbf{\$}\mathbf{6}\mathbf{,}\mathbf{933}\mathbf{+}\mathbf{\$}\mathbf{6}\mathbf{,}\mathbf{801}}{\mathbf{2}}\\ \mathbf{=}\frac{\mathbf{\$}\mathbf{13}\mathbf{,}\mathbf{734}}{\mathbf{2}}\\ \mathbf{=}\mathbf{\$}\mathbf{6}\mathbf{,}\mathbf{867}\end{array}$

$\begin{array}{c}\mathbf{Inventory}\mathbf{}\mathbf{Turnover}\mathbf{}\mathbf{ratio}\mathbf{\left(}\mathbf{2015}\mathbf{\right)}\mathbf{=}\frac{\mathbf{Sale}\mathbf{}\mathbf{\left(}\mathbf{2015}\mathbf{\right)}}{\mathbf{Average}\mathbf{}\mathbf{Inventory}\mathbf{}\mathbf{2015}\mathbf{\left(}\mathbf{FIFO}\mathbf{\right)}}\\ \mathbf{=}\frac{\mathbf{\$}\mathbf{108}\mathbf{,}\mathbf{465}}{\mathbf{\$}\mathbf{6}\mathbf{,}\mathbf{867}}\\ \mathbf{=}\mathbf{15}\mathbf{.}\mathbf{8}\end{array}$

$\begin{array}{c}\mathbf{Average}\mathbf{}\mathbf{Inventory}\mathbf{}\mathbf{\left(}\mathbf{2014}\mathbf{\right)}\mathbf{=}\frac{\mathbf{Ending}\mathbf{}\mathbf{Inventory}\mathbf{}\mathbf{\left(}\mathbf{FIFO}\mathbf{2014}\mathbf{\right)}\mathbf{+}\mathbf{Ending}\mathbf{}\mathbf{Inventory}\mathbf{}\mathbf{\left(}\mathbf{FIFO}\mathbf{2013}\mathbf{\right)}}{\mathbf{2}}\\ \mathbf{=}\frac{\mathbf{\$}\mathbf{6}\mathbf{,}\mathbf{801}\mathbf{+}\mathbf{\$}\mathbf{6}\mathbf{,}\mathbf{244}}{\mathbf{2}}\\ \mathbf{=}\frac{\mathbf{\$}\mathbf{13}\mathbf{,}\mathbf{045}}{\mathbf{2}}\\ \mathbf{=}\mathbf{\$}\mathbf{6}\mathbf{,}\mathbf{522}\mathbf{.}\mathbf{5}\end{array}$

$\begin{array}{c}\mathbf{Inventory}\mathbf{}\mathbf{Turnover}\mathbf{}\mathbf{ratio}\mathbf{}\mathbf{\left(}\mathbf{2014}\mathbf{\right)}\mathbf{=}\frac{\mathbf{Sale}\mathbf{}\mathbf{\left(}\mathbf{2014}\mathbf{\right)}}{\mathbf{Average}\mathbf{}\mathbf{Inventory}\mathbf{}\mathbf{2014}\mathbf{\left(}\mathbf{LIFO}\mathbf{\right)}}\\ \mathbf{=}\frac{\mathbf{\$}\mathbf{98}\mathbf{,}\mathbf{375}}{\mathbf{\$}\mathbf{6}\mathbf{,}\mathbf{522}\mathbf{.}\mathbf{5}}\\ \mathbf{=}\mathbf{15}\mathbf{.}\mathbf{08}\end{array}$

Preferred method for evaluation

Inventory turnover is the analysis of the flow of inventory during a particular period. When this flow is compared with the cost of inventory sold or total sales, it is called the inventory turnover ratio.

Inventory turnover can be based on cost or sales value. It depends upon the nature of the business for taking cost or sales as a base for computing turnover. Generally, manufacturing companies use COGS for computing inventory turnover. Retail companies can use both as a base for computing inventory turnover.

In the given case, it is not known the nature of the business for Kroger Company. So it can use any method, but inventory turnover based on COGS is preferred for all cases.

Inventory turnover based on COGS is the preferred method as the flow is compared against cost and not against the price. Cost is the true measure of the flow of inventory because, in this way, the inflation effect can be ruled out, and there would be consistency in the analysis of financial performance.