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Contents 1 Cost Flow Assumptions 1.1 Specific Identification 1.1.1 The Good 1.1.2 The Bad 1.2 FIFO 1.2.1 The Good 1.2.2 The Bad 1.3 LIFO 1.3.1 The Good 1.3.2 The Bad 1.4 Weighted Average 1.4.1 The Good 1.4.2 The Bad 1.5 Notes

[edit] Cost Flow Assumptions

• Cost flow assumptions affect the more important Income Statement and less important Balance Sheet
• Assume that the most recent cost is most relevant cost

[edit] Specific Identification

• Keeps track of the cost of each, specific good sold

[edit] The Good

• Perfect matching of costs of goods to goods sold

[edit] The Bad

• Often impossible or too costly
• Allows manipulation by management

[edit] FIFO

• First-In-First-Out
• Assigns first costs incurred to COGS (Cost of Goods Sold) on the Income Statement

[edit] The Good

• Disallows manipulation by management
• Cost flow agrees with ideal, physical flow of goods
  • Counter-Argument – Agreement of cost flow and ideal, physical flow of goods is not important

[edit] The Bad

• Uses the least relevant cost for the Income Statement
• Underestimates or overestimates cost of goods sold if prices are rising or falling, respectively

[edit] LIFO

• Last-In-First-Out
• Assigns last costs incurred to COGS on the Income Statement

[edit] The Good

• Disallows manipulation by management
• Uses the most relevant cost for the Income Statement

[edit] The Bad

• Underestimates or overestimates cost of goods sold if prices are falling or rising, respectively
• Cost flow disagrees with ideal, physical flow of goods
  • Counter-Argument – Agreement of cost flow and ideal, physical flow of goods is not important

[edit] Weighted Average

• Assigns average cost incurred to COGS on the Income Statement

[edit] The Good

• Disallows manipulation by management
• Better estimation of the cost of goods sold than FIFO or LIFO if prices are rising or falling

[edit] The Bad

• Tends to ignore extreme costs of inventory
• There is no theoretical reasoning for using this method

[edit] Notes

• LIFO and Weighted Average cost flow assumptions may yield different end inventories and COGS in a perpetual inventory system than in a periodic inventory system due to the timing of the calculations