LIFO and FIFO

We need to get together later this week. Our manager has requested we give her an overview of last in, first out (LIFO) versus first in, first out (FIFO) as it might apply to our company. She needs background information to present to the president and the board later this month. This will help management decide which inventory valuation method the company should use.Because we may be entering inflationary economic times, it is possible we might recommended that the company continue to use LIFO so we can continue to reduce our federal and state corporate income taxes—this could provide the company with a better cash flow and profit margin. The question we need to research and discuss is whether we think this economic situation will continue so that our cost of goods sold (COGS) will be increasing over the short- and long-term and our inventories cost keep rising.As you know, choosing LIFO or FIFO for inventory will affect our P&L statements. If costs stay where they are now, we will want to see how we can move to LIFO. If costs go up as we expect next year, we should stay with FIFO inventory. •FIFO = Income statement reflects a higher income because the COGS is lower in value; inventory on balance sheet has higher value. •LIFO = The income statement reflects a lower income because COGS is higher; on the balance sheet the inventory value is lowered. No matter which method we suggest or recommend, we will need to use it going forward.With our elastic pricing structure, we will have difficulty increasing the price to offset the COGS increase next year. We must also keep in mind that if we use LIFO for inventory, we need to use LIFO for financial reporting. Did you see the news that Macy’s recently won a test case against the United States that approved its right to use LIFO? This approval may entitle Macy’s to tax refunds that may total $9 million from earlier last century. The case may bring on many other retailers’ cases to change from FIFO to LIFO.

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