Financial Advisor
To protect cash flows, a significant number of companies change to last in, first out (LIFO) inventory to reduce their present and future tax liabilities ( SMITH & SKOUSEN, 1992)
Based on the situations given, since the business sales are good, the company may use last in, first out method of inventory (LIFO). The said method minimizes the business tax obligation because the costs of goods are usually high and therefore produces lower profit. Lower profit means lesser tax liability. The change of inventory method from first in, first out (FIFO) to last in, first out is justified because the cost of inventory has increased and for this reason, it puts the business in a tight cash position.
The impact of the change on income due to change of inventory method on the current year must be disclosed in a note to the statements.
According to Smith and Skousen (1992) that the last in, first-out is based on the assumption that the latest costs of a specific item should be charged to cost of goods sold.
Inventories are thus stated at earlier cost and expense is charged with the most recently incurred costs.
However, when the condition worsen and it affects the ability of the company to sell goods, it is recommended to change to first in, first out (FIFO) method to avoid loss of perishable goods.
REFERENCE
JAY M. SMITH & K. FRED SKOUSEN (1992). Intermediate Accounting,
Mutual Books, Inc.
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