During 2015, Crop-Paper-Scissors, a craft store, changed to the LIFO inventory c

Question

During 2015, Crop-Paper-Scissors, a craft store, changed to the LIFO inventory costing method of accounting for inventory. Suppose that during 2016, Crop-Paper-Scissors switches back to the FIFO inventory costing method and the following year switches back to LIFO again.

Explain the effect of Lifo inventory valuation on inventory and COGS.

Explain the effect of FIFO inventory valuation on inventory and COGS.

What would you think of a company's ethics if it changed accounting methods every year?

What accounting principle would changing methods every year violate?

Who can be harmed when a company changes its accounting methods too often? How?

Explanation / Answer

Under LIFO valuation method , assuming the inflationery condition, the latest purchased stocks and current high value are issued for production and the old units purchased in lower rates remain in the closing inventory. So the COGS become inflated and Closing inventory is shown at a lower value. As a result the txable income of the year becomes lower and income tax liability becomes less.

FIFO on the other hand issues lower value initial stocks at first for production and higher value latest stock remain in closing stock. This method results in lower COGS and higher inventory valutaion causing higher taxable income and higher Income tax liability.

Crop-Paper-Scissors is not working ethically if it changes the inventory valuation method every year. It will not create a good perception amon the auditors , tax authorities and shareholders and every one will view this approach is a tax evading tactics when the income is higher (LIFO) and artificially showing better profit to maintain share price when income is lesser (FIFO basis). The Auditors must raise strong objection and qualification for such frequent change in accounting principles without compelling reasons.

Crop-Paper-Scissors companies policy of changing inventory valuation method every year is violating the consistency principle of accounting. Under consistency principle a company must follow an accounting principle like inventory valuation consistently every year until there is a stutaion that a better suitable system is available for use. Hoewever, there must the compelling reasons for such change as and when required but such change cannot happen every year at the company's whim.

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