Users of financial statement rely on the information available to them to decide whether to invest in a company or lend it money. As an investor, you are comparing three companies in the same industry. The cost to purchase inventory is rising in the industry. Assume that all expenses incurred by the three companies are the same except for cost of goods sold. The companies use the following methods to value ending inventory:
Company A - Weighted average cost
Company B - first in, first-out (FIFO)
Company C - last in , first out (LIFO)
1. Which of the three companies will report the highest net income?
2. Which of the three companies will pay the least in income taxes?
3. Which method of inventory cost do you believe is superior to the others in providing information to potential investors? Explain.
4. Explain how your answer to part (1) (2), and (3) would change if the costs to purchase inventory had been falling instead of rising.