Question

The management of Tritt Company has asked its accounting department to describe the effect upon the company’s financial position and its income statements of accounting for inventorieson the LIFO rather than the FIFO basis during 2017 and 2018. The accounting department is to assume that the change to LIFO wouldhave been effective on January 1, 2017, and that the initial LIFO base would have been the inventory value on December 31, 2016. Thefollowing are the company’s financial statements and other data for the years 2017 and 2018 when the FIFO method was employed.

Financial Position as of

12/31/16 12/31/17 12/31/18

Cash \( 90,000 \)130,000 \(154,000

Accounts receivable 80,000 100,000 120,000

Inventory 120,000 140,000 176,000

Other assets 160,000 170,000 200,000

Total assets \)450,000 \(540,000 \)650,000

Accounts payable \( 40,000 \) 60,000 \( 80,000

Other liabilities 70,000 80,000 110,000

Common stock 200,000 200,000 200,000

Retained earnings 140,000 200,000 260,000

Total liabilities and equity \)450,000 \(540,000 \)650,000

Income for Years Ended

12/31/17 12/31/18

Sales revenue \(900,000 \)1,350,000

Less: Cost of goods sold 505,000 756,000

Other expenses 205,000 304,000

710,000 1,060,000

Income before income taxes 190,000 290,000

Income taxes (40%) 76,000 116,000

Net income \(114,000 \) 174,000

Other data:

1. Inventory on hand at December 31, 2016, consisted of 40,000 units valued at \(3.00 each.

2. Sales (all units sold at the same price in a given year):

2017—150,000 units @ \)6.00 each 2018—180,000 units @ \(7.50 each

3. Purchases (all units purchased at the same price in given year):

2017—150,000 units @ \)3.50 each 2018—180,000 units @ $4.40 each

4. Income taxes at the effective rate of 40% are paid on December 31 each year.

Instructions

Name the account(s) presented in the financial statements that would have different amounts for 2018 if LIFO rather than FIFOhad been used, and state the new amount for each account that is named. Show computations.

Short answer

By adopting LIFO, ending inventory would have a new balance having $120,000 in both years. COGS in 2017 and 2018 would be $525,000 and $792,000, respectively.

Step-by-step solution

Cost of goods sold under LIFO

The LIFO method values the cost of goods sold for the latest cost price. So the ending inventory would be lowest under the LIFO method.

For the given data, COGS for 2017 and 2018 would be as follows:

$$\begin{gathered} \mathrm{COGS}\mathrm{for}2017=\mathrm{No}.\mathrm{of}\mathrm{units}\mathrm{sold}\mathrm{for}2017\times \mathrm{Cost}\mathrm{price}\mathrm{of}\mathrm{purchase}\mathrm{for}2017 \\ =150,000\times \$3·5 \\ =\$525,000 \end{gathered}$$

$$\begin{gathered} \mathrm{COGS}\mathrm{for}2018=\mathrm{No}.\mathrm{of}\mathrm{units}\mathrm{sold}\mathrm{for}2018\times \mathrm{Cost}\mathrm{price}\mathrm{of}\mathrm{purchase}\mathrm{for}2018 \\ =180,000\times \$ 4·4 \\ =\$792,000 \end{gathered}$$

Ending Inventory under LIFO

$$\begin{gathered} \mathrm{Ending}\mathrm{Inventory}2017=\mathrm{Opening}\mathrm{stock}+\mathrm{Purchase}\mathrm{value}-\mathrm{COGS} \\ =\$120,000+\left(150,000\times \$3·5\right)-\$525,000 \\ =\$120,000 \end{gathered}$$

$$\begin{gathered} \mathrm{Ending}\mathrm{Inventory}2018=\mathrm{Opening}\mathrm{stock}+\mathrm{Purchase}\mathrm{value}-\mathrm{COGS} \\ =\$120,000+\left(180,000\times \$4·4\right)-\$792,000 \\ =\$120,000 \end{gathered}$$

Affected accounts

Due to a change in inventory valuation method, only two accounts would be affected – COGS and Inventory.

The value of COGS would be higher in both years, and ending inventory would be lowest in both years.

Affected accounts with their new balances

2017 2018

Inventory Account $120,000 $120,000

COGS $525,000 $792,000