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Barbara Wight is Chief Financial Officer at Taylor Guitars, an industry-leading guitar manufacturer whose instruments are played by leading musicians worldwide. She directs all financial, information technology and legal affairs on behalf of the company and oversees various aspects of operations management, multinational manufacturing, acquisitions, and international compliance.
1 What are the primary factors considered by management when selecting an
Taylor uses the FIFO methodology. GAAP does not require that our valuation methodology match the flow of our inventory; however, in our case, FIFO does closely approximate the actual physical flow of our goods. Our primary raw material is wood, and it must be aged and dried before we use it to build a guitar. Therefore, we are always using the oldest wood first.
In addition, our business is not as susceptible to inflation as other businesses might be. For example, the price of the wood we purchase is directly related to supply and demand at a given point in time, and the sales price of our finished guitars is relatively stable over time.
Therefore, LIFO would not necessarily provide us a sustainable, consistent tax advantage Taylor’s inventories (both finished goods and raw materials) are stated at
2 Why would a business use more than one inventory valuation method for its inventory? Businesses may use more than one inventory valuation method if they have foreign operations because LIFO is not permitted under IFRS. So companies that use LIFO for U. S. operations would use FIFO for international units Businesses might also apply different methodologies to different types of inventory or different business segments For example, if a company’s different business segments have different underlying raw material market deliveries, it might want to use LIFO for materials subject to inflation and FIFO for materials whose pricing is stable or even in decline.
3 Describe the most common components included in the unit cost of inventory at Taylor. Taylor states inventories at standard cost based on the expected raw material costs, labor, and overhead. Our primary raw material is wood.
At the beginning of each year, Taylor determines how many total labor hours it will need to build the forecasted number of guitars and allocates overhead (and labor) to each guitar based on the calculated overhead and labor rate. The overhead rate times the number of labor hours per guitar equals overhead applied to each guitar unit. Taylor drives production based on a hybrid model; we build to order and to a sales
4 What are the most significant judgments employed in the decision to write inventory down to market when applying the lower-of-cost-or-market rule?
The most significant judgments are the replacement cost, expected selling price, cost of completion and/or disposal, and normal profit. After appropriately calculating these items, we apply the lower-of-cost-or-market rule. Another area that requires judgment is the determination of whether to calculate the lower-of-cost-or-market rule based on total inventory in question, the inventory category, or on an item-by-item basis. The latter is the most conservative approach.
Each quarter Taylor reviews inventory for slow-moving or obsolete items to establish an excess and obsolete (E&O) inventory reserve balance. Finished goods are typically not reserved against and written off. If a guitar model is deemed to be subnormal, or if it is determined that a model needs to be reengineered to improve the quality to the customer, we write off these specifically identified models.
5 Does Taylor use estimated inventory techniques for financial reporting? Why or why not? One estimated inventory technique is related to how we value our raw wood It is not practical (and nearly impossible) to accurately and consistently measure raw wood when it is brought in directly from the forest. So, we have a standard process for estimating the value, which has been accepted by our auditing firm.
Discussion Questions
- 1. Discuss why LIFO is not permitted under IFRS.
- 2. Although Taylor Guitars makes limited use of estimating inventory, describe some of the reasons why a company may elect to estimate ending inventory and whether it may report estimated inventory on external financial statements.
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Chapter 10 Solutions
Intermediate Accounting
- You are comparing two companies, Ying Ltd and Yang Corporation, in the same industry. Ying focuses on revenue expenditure and uses the periodic inventory system. Yang focuses on capital expenditure and uses the perpetual inventory system. Discuss the difference between the company’s expenditure focus and state the two reasons each company will take a physical inventory use their respective systems.arrow_forwardWhy is the level of and movement in the operating expense percentage an important indicator of financial risk? which answer is it below? a. It provides important insight into management integrity b It is an indicator of production efficiency. c. It reveals the success of the business's Inventory procurement strategies d. It is a measure of expense management, exclusive of production and financing costs. .arrow_forwardYou have just been hired as a consultant to Gilbert Industries, a newly formed company. The company president, Mindy Grayson, is seeking your advice as to the appropriate inventory method the company should use to value its inventory and cost of goods sold. Ms. Grayson has narrowed the choice to LIFO and FIFO. She has heard that LIFO might be better for tax purposes, but FIFO has certain advantages for financial reporting to investors and creditors. You have been told that the company will be profitable in the first year and for the foreseeable future.Identify (list) the issues that the company president, Mindy Grayson, should consider in choosing between the LIFO and FIFO methods.arrow_forward
- You have just been hired as a consultant to Gilbert Industries, a newly formed company. The company president, Mindy Grayson, is seeking your advice as to the appropriate inventory method Gilbert should use to value its inventory and cost of goods sold. Ms. Grayson has narrowed the choice to LIFO and FIFO. She has heard that LIFO might be better for tax purposes, but FIFO has certain advantages for financial reporting to investors and creditors. You have been told that the company will be profitable in its first year and for the foreseeable future. Required: Prepare a report for the president describing the factors that should be considered by Gilbert in choosing between LIFO and FIFO.arrow_forwardYou have just been hired as a consultant to Tangier Industries, a newly formed company. The company president, John Meeks, is seeking your advice as to the appropriate inventory method Tangier should use to value its inventory and cost of goods sold. Mr. Meeks has narrowed the choice to LIFO and FIFO. He has heard that LIFO might be better for tax purposes, but FIFO has certain advantages for financial reporting to investors and creditors. You have been told that the company will be profitable in its first year and for the foreseeable future. Required: Prepare a report for the president describing the factors that should be considered by Tangier in choosing between LIFO and FIFO.arrow_forwardThe management of Milque Corp. is considering the effects of various inventory-costing methods on its financial statements and its income tax expense. Assuming that the price the company pays for inventory is increasing, which method will: (a) provide the highest net income? Select the inventory-costing method that will provide the highest net income (b) provide the highest ending inventory? Select the inventory-costing method that will provide the highest ending inventory (c) result in the lowest income tax expense? Select the inventory-costing method that will result in the lowest income tax expense (d) result in the most stable earnings over a number of years? Select the inventory-costing method that will result in the most stable earnings over a number of yearsarrow_forward
- The level of inventory a company maintains has important economic consequences, and it involves conflicting goals. The ability to control inventory levels is a critical skill in managing a business. Three retailing giants, Best Buy Co., Inc. (NYSE: BBY), Amazon.com, Inc., (NASDAQ: AMZN), and Target Corporation (NYSE: TGT) each use a different inventory costing method. Best Buy uses weighted-average cost, Amazon uses FIFO, and Target uses LIFO. Below is a hypothetical example that highlights the potential differences in income statements and balance sheets that could arise simply because of the use of a different inventory costing method. Assume that all three retailers sell a popular shirt that retails for $32. To compare the impact of inventory costing method, we will also assume that all three retailers have the following inventory and sales data for the same period. To keep the calculations simple, a “unit” represents one million shirts. Beginning inventory: 3 units @ $10.00…arrow_forwardThe GAAP is an acronym that represents which of the following?Choose one answer.a. Principles for inventory monitoring b. Principles for marketing costs c. Principles for financial reporting d. Principles for global trackingarrow_forwardE Which one of the following statements is correct? A B E Comparing results across geographic locations is easier since all countries now use a common set of accounting standards. Peer group analysis is easier when seasonal firms have different fiscal years. Adjustments have to be made when comparing the income statements of firms that use different methods of accounting for inventory. Peer group analysis is simplified when firms use varying methods of depreciation. Peer group analysis is easier when a firm is a conglomerate versus when it has only a single line of business.arrow_forward
- Hases as the first ut (LIFO) 4. Conservatism 5. Consistency Principle 5. Weighted-Average 7. Disclosure Principle b. Requires that a company report enough information for outsiders to make knowledgeable decisions. c. Identifies exactly which inventory item was sold Usually used for higher cost inventory. d. Calculates a weighted average cost based on the cost of goods available for sale and the number of units available. 3. First-In, First-Out (FIFO) e. Principle whose foundation is to exercise caution in reporting financial statement items. f. Treats the most recent/newest purchases as the first units sold. g. Businesses should use the same accounting methods from period to period. h. Principle that states significant items must conform to GAAP. Learning Objective 2 6-17 Comparing inventory methods Express Lane, a regional convenience store chain, maintains milk inventory by the gal- lon. The first month's milk purchases and sales at its Freeport, Florida, location follow: 1. Ending…arrow_forwardHow do retail companies correctly match expenses with revenue for the period to get an accurate net income? a. With a modern POS system. b. With the consistency principle. c. With a goods-on-hand estimate from the Controller. d. With a physical inventory. According to the Home Depot’s financial statement example provided by the author, which is the predominant method of inventory valuation used by the company? a. FIFO b. LIFO c. NRV d. LCM please provide me a coerrect answer explains tep by steparrow_forwardInventory valuation methods are based on the systematic cash flow of adding and removing inventory costs. Each method has its advantages and disadvantages. When selecting an inventory method, management should select the method that best reflects operational needs. Last in, first out (LIFO) and first in, first out (FIFO) are two of the inventory methods that we have discussed. Assume that you are investing in a publicly traded company during a period of rising prices. Would you prefer that the company use LIFO or FIFO for inventory valuation? Please support your response.arrow_forward
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